SECURITIES AND EXCHANGE COMMISSION
                              Washington, DC 20549
                              --------------------

                                    FORM 10-K

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

                   For the fiscal year ended December 31, 2002

                                       OR

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

             For the transition period from __________ to __________


                          Commission File Number: 08354


                            nStor Technologies, Inc.
                            ------------------------
             (exact name of registrant as specified in its charter)

       Delaware                                            95-2094565
       --------                                            ----------
(State of Incorporation)                            (I.R.S. Employer ID No.)

                6190 Corte Del Cedro, Carlsbad, California 92009
                ------------------------------------------------
                    (Address of principal executive offices)

      Registrant's telephone number, including area code: (760) 683-2500
                                                          --------------

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

                                                 Name of each exchange
     Title of each class                          on which registered
     -------------------                         ---------------------
            None                                          None

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

                     Common Stock, par value $0.05 per share
                     ---------------------------------------
                                (Title of class)


Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the 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 _____


<PAGE> 2


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


Indicate  by check mark  whether  the  registrant  is an  accelerated  filer (as
defined in Rule 12b-2 of the Act): Yes _____   No X


                AGGREGATE MARKET VALUE OF THE VOTING COMMON STOCK
                     HELD BY NONAFFILIATES OF THE REGISTRANT

Common  Stock,  par value $.05 per share (Common  Stock),  was the only class of
voting common equity of the Registrant  outstanding on December 31, 2002.  Based
on the last  sales  price of the Common  Stock on the  American  Stock  Exchange
(AMEX) on June 28, 2002 ($.23),  the aggregate market value of the approximately
36,959,000  shares  of the  voting  Common  Stock  held  by  non-affiliates  was
approximately $8.5 million.


              APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY
                  PROCEEDINGS DURING THE PRECEDING FIVE YEARS:

Indicate  by check mark  whether  the  Registrant  has filed all  documents  and
reports  required  to be filed by  Section  12,  13, or 14(d) of the  Securities
Exchange Act of 1934 subsequent to the  distribution of securities  under a plan
confirmed by a court.
             Yes ___                    No ____


                   (APPLICABLE ONLY TO CORPORATE REGISTRANTS)

Indicate the number of shares outstanding of each of the Registrant's classes of
common stock, as of the latest practicable date:

             142,076,947 shares of Common Stock, par value $.05 per
                share, were outstanding as of February 28, 2003.


                       DOCUMENTS INCORPORATED BY REFERENCE

     Portions of the Definitive Proxy Statement of nStor Technologies, Inc.
                  for the 2003 Special Meeting of Stockholders
                           (incorporated in Part III)


<PAGE> 3


                                     PART I


Item 1.   Business

GENERAL

nStor   Technologies,   Inc.,   through  its  wholly-owned   subsidiary,   nStor
Corporation,  Inc.  designs,  develops and  manufactures  external  data storage
solutions,   including  high  density  storage  enclosures,  storage  management
software and RAID (Redundant Array of Independent  Disks) controller  technology
(Storage  Solutions).  In addition,  since our June 2002  acquisition of 100% of
Stonehouse   Technologies,   Inc.   (Stonehouse),   we   are   a   provider   of
telecommunications software and services solutions (Telecommunication Solutions)
that help large enterprises  manage their  communications  expenses,  assets and
processes.  We  incorporated  as a Delaware  corporation  in 1959 and  initially
acquired our Storage Solutions business in 1996. References in this Form 10-K to
"we", "our", "us", the "Company", and "nStor" refer to nStor Technologies,  Inc.
and its consolidated subsidiaries.

Our Storage  Solutions  product line  supports a variety of  operating  systems,
including Windows NT and Windows 2000, UNIX, Linux, and Macintosh,  and utilizes
technology  architectures such as Fibre Channel,  Fibre-to-SCSI  (Small Computer
Systems Interface), and SCSI. Our RAID solutions provide data storage solutions,
particularly   for    storage-intensive    environments   and   mission-critical
applications  requiring  substantial storage  performance and capacity,  such as
document imaging, video and multimedia,  or transaction-intensive  environments,
such as banking and order entry systems.

We market our Storage  Solutions  products through direct sales personnel in the
United States and  indirectly  through a global  network of channel and Original
Equipment Manufacturer (OEM) partners.

Our  Telecommunication  Solutions  include a suite of modular  applications  and
consulting services,  which allow enterprises to manage voice, data and wireless
services by  providing a  systematic  approach  to  automate  order  processing,
monitor  expenses,  manage vendor  invoices,  track asset inventory and allocate
costs. We market our  Telecommunication  Solutions  through a direct sales force
and indirectly through channel partners.

Through the end of 2002, our executive and business headquarters were located in
San Diego,  California.  During December 2002, we relocated our  headquarters to
6190 Corte Del Cedro,  Carlsbad,  California  92009 and our telephone  number is
(760)  683-2500.  Our principal  engineering  offices for our Storage  Solutions
business  is  located at 100  Technology  Park,  Suite 175 , Lake Mary,  Florida
32746. The headquarters for our Telecommunication  Solutions business is located
at 2740 North Dallas  Parkway,  Plano,  Texas 75093 and our telephone  number is
(972) 543-2100.

STORAGE SOLUTIONS

        INDUSTRY

The  demand  for  increased  information  and data  storage  capacity  has grown
dramatically  as  new  storage  applications  create  greater  efficiencies.   A
significant  growth in Internet  users and Internet  business  transactions  has
resulted in the  creation of millions of new web sites.  Environments  that have
traditionally been paper-intensive such as insurance, healthcare, education, law
firms,  and  government  agencies  have  embraced  the use of  document  imaging
technology.  Specific  sectors such as broadcasting,  entertainment,  music, and
animation  have now fully  transitioned  their  operations to the digital realm.
This  exponential  growth  of  computerized  data has  accelerated  the need for
available and reliable data storage solutions.  To meet this need, companies are
investing in new centralized  storage  infrastructures  that not only meet their
demands today, but also lay the groundwork for their future needs.


<PAGE> 4


As  corporate  IT   (Information   Technology)   environments   increase   their
server-based  infrastructure to include storage-centric  solutions, the areas of
fault-tolerance   and  storage  management  play  a  vital  role  in  protecting
businesses' critical data. To meet this escalating demand, storage suppliers are
transitioning  their RAID  solutions  into SAN's  (Storage  Area  Networks)  and
Network Attached Storage (NAS) environments,  the two fastest growing sectors in
the data storage marketplace. To successfully compete in this aggressive market,
companies need innovative products,  strong integration expertise, and excellent
support services.

        PRODUCT STRATEGY

We offer a diverse  product line with high levels of  performance,  scalability,
and reliability that meet the demands of today's storage-intensive requirements.
Our  interoperability  lab ensures the  compatibility of our products with other
key system  components  making the  installation and utilization of our products
seamless and cost-effective even in the most complicated system environments.

We believe our NexStor  4000 Series 2U (3.5  inches)  product line is one of the
industry leaders in terms of rack space density. The product line is offered for
Fibre Channel,  SCSI, and  Fibre-to-SCSI  environments.  Our storage  enclosures
feature fully  redundant,  hot-swappable  components  and support the industry's
fastest and most dense disk drives. NexStor's advanced design and capability are
targeted to the  mid-range  to  enterprise  computing  environment.  The NexStor
products  designed by us include  SAF-TE (SCSI Access  Fault-Tolerant  Enclosure
Services) and SES-compliant  (SCSI Enclosure Services) modules that can store up
to 1.76TB  (Terabytes)  of data in a 3.5-inch,  or 2U,  increment of rack space,
available in 12-bay versions.

Our 4000 Series SCSI enclosure architecture is designed to provide Ultra320 SCSI
connectivity,  leverage our 2U design,  and permits the  integration of two SCSI
RAID  controllers  within  the  same  3.5-inch  form  factor,   eliminating  the
dependency of an additional RAID controller  subsystem.  This design is targeted
to the cost-sensitive, entry-level SCSI marketplace.

Our Fibre Channel  products  include  SAN-ready Fibre RAID and RAID-ready  Fibre
JBODs (Just a Bunch of Disks).  The 2Gbit  (2GB/sec)  Fibre  Channel 4000 Series
products provide  high-availability  storage with flexibility and scalability to
meet a customer's  growing  storage  requirements.  Our family of flexible 2Gbit
Fibre Channel Wahoo RAID  controllers,  released to OEMs and System  Integrators
(SIs)  in  early  2003,  allow us to act as a  single  source  storage  solution
provider  (enclosure  technology  and RAID  controller,  managed by our StorView
Storage  Management  Software)  and to  continuously  add new  features and meet
demanding customer support  requirements.  Fibre Channel has been the choice for
mid-range to  enterprise-level  storage,  and we expect that it will continue to
grow as cost savings are  realized by sharing the same managed  storage pool for
multiple servers.

Our  StorView  Software  complements  our  NexStor  product  line as a web-based
Storage  Management  Software suite that is used to configure RAID  controllers,
monitor and report storage  status,  and manage disk arrays.  StorView  provides
local or remote  monitoring  and  management  with remote  notification  (e-mail
and/or  pager  alerts to  individuals  or groups)  for  Windows,  Linux and UNIX
environments, allowing users to manage data from remote locations.


<PAGE> 5


        CURRENT PRODUCT OFFERINGS

Through the fourth  quarter of 2002,  our Fibre  Channel  products  included the
SAN-ready 3150F and 3250F  complimented  by the RAID-ready 802F and 1202F.  This
product line was phased out in favor of the next generation  2Gbit Fibre Channel
4000F Series.

Our SCSI product line included the NexStor  802S,  Ultra160 SCSI JBOD product in
its 2U form factor,  and served as the  foundation for the later release of RAID
and 12-bay Ultra160 SCSI designs.  The NexStor 802S/3150S and 1202S/3250S filled
a direct-connect SCSI requirement and like our Fibre Channel product, offered an
easy JBOD to RAID  upgrade  path.  This product line was phased out in the third
quarter of 2002 in favor of the next generation 4000S Series.

In 2002,  we  re-designed  our chassis to improve  its price  points and feature
sets. The new line of products,  the 4000 Series,  provides modular  electronics
and  mechanical  designs  that allow us to take  advantage  of new host and disk
drive  interface   technologies   more   efficiently,   while  reducing  overall
manufacturing costs.

        NexStor 4000F and 4100F/4150F - Fibre Channel JBOD (RAID-ready) and RAID
        Systems

Our recently  introduced  2Gbit Fibre product line  encapsulates  both SAN-ready
RAID and RAID-ready  JBOD storage  solutions  within the same 2U form factor and
has complete 2Gbit host to drive  connectivity.  Since drive  manufacturers  are
focused on only releasing 1-inch  low-profile disk drives, the 4000F Series is a
12-bay  enclosure  system that can be a standalone  JBOD (4000F),  a single RAID
controller  system (4100F) or a dual RAID controller  system (4150F).  The 4000F
JBOD system protects a customer's  storage investment as RAID controllers can be
simply  integrated into the back of the enclosure for instant RAID protection in
the same 2U form factor.  With twelve 144GB disk drives, the 4000F Series scales
up to 18TB in 1.76TB,  3.5-inch modular  increments.  This modular design allows
customers  the `pay as you grow'  ability in a  space-saving,  high-performance,
high-availability storage system.

The 4000F  Series was  designed  to be a direct  replacement  of  nStor's  3000F
Series. Production shipments began at the end of the fourth quarter of 2002.

        NexStor 4000S and 4100S/4150S - SCSI JBOD (RAID-ready) and RAID Systems

Our SCSI product line was re-designed to add the latest Ultra320  technology and
provide  a more  cost-effective  storage  system  for the price  sensitive  SCSI
marketplace.  The initial  introduction  of the 4000 Series  products was a SCSI
version with Ultra320 JBOD and Ultra160 RAID host connectivity.

The 4000S Series also incorporates a 12-bay enclosure  technology and houses the
latest,  high-performance  15,000RPM and highest capacity 144GB disk drives. The
4000S JBOD has an Ultra320 bus  architecture  that  provides 320 MB/s single and
640 MB/s dual bus data  paths.  The 4000S JBOD is easily  upgraded  to the 4100S
single  RAID  controller  or the  4150S  dual RAID  controller  system by simply
integrating  RAID  controllers  into the back of the  enclosure.  The ability to
integrate  the SCSI RAID  controllers  directly  into the back of the  enclosure
eliminates the cost to convert a JBOD into a high-availability RAID system.

The 4000S Series was designed to be a direct  replacement  of our 3000S  product
line. Production shipments began during the third quarter of 2002.

        NexStor 4300F and 4500F - Fibre Channel RAID Systems

In  February  2003,  we  announced  the  release of our two new 2Gbit Fibre RAID
Solutions intended for entry to mid-range enterprise class storage applications.
The  NexStor  4300F and 4500F are  based on our Wahoo and  WahooXP  2Gbit  Fibre
Channel  RAID  controllers   integrated  into  our  2U  12  drive  4000F  Series
enclosures, fully supported by the web-based StorView Software.


<PAGE> 6


        Wahoo Controller

Our Wahoo controller is available as an economical  single board version (Wahoo)
or as an extended processing (WahooXP) version with a powerful  co-processor and
extended cache. Having two versions of the controller based on the same firmware
allows an OEM or SI to address  either price  sensitive  requirements  or higher
performance  feature  rich  requirements  without  having to  qualify  different
firmware code sets. Our StorView Storage Management  Software fully supports the
Wahoo family of controllers.

Wahoo is a 2Gb 2x2 Fibre to Fibre RAID controller  designed for high performance
storage solutions and is intended to be used in stand-alone  (single controller)
applications as well as robust Active-Active and remote mirrored  configurations
where single points of failure  cannot be  tolerated.  As a single or dual board
external  RAID  controller,  Wahoo is intended to be used with our 2U RAID Fibre
Channel enclosures as well as non-nStor Fibre Channel enclosures. Wahoo includes
512MB of write-protected cache, dual Fibre host and drive channels, and complete
fabric  log on.  Wahoo  supports  up to 124  drives  and does not  require  hard
addressing,  providing increased flexibility in configuration.  Wahoo disk drive
and host  interface  uses dual fibre  controllers to take full advantage of dual
loops on each Fibre Channel disk drive for performance and fault  tolerance.  In
addition,  Wahoo  provides  two  independent  host ports and is  designed  to be
plugged into a passive back panel with  removable port bypass  modules.  WahooXP
meets  the  increased  performance  commands  of  intense  transaction  or video
streaming applications with dual processors and 1GB of write-protected cache.

        StorView

Our StorView  Storage  Management  Software  suite allows IT  administrators  to
configure,  manage,  and monitor the entire  network from anywhere in the world.
Written in HTML-based GUI  (Geographical  User  Interface) to manage the NexStor
4300F and 4500F Series, our web-based StorView works with the industry's leading
web browsers making it easy to customize  local or network based  management and
fault reporting.  StorView is the fifth generation of software  management tools
developed by us and is the first module of our NSM (Network Storage  Management)
architecture.  With access through a secure firewall, IT administrators have the
ability to change RAID  configurations  and LUN  permissions  on the fly without
server  re-boots or  disruption  to data  access.  Some of the  capabilities  of
StorView include:

     o    Highly visual and intuitive user interface,  making it easy to use and
          learn;
     o    HTML  allows  it to  work  in any  browser  and  makes  it  simple  to
          customize;
     o    Local or network based management and fault reporting;
     o    Automatic  detection  of servers on the  network  minimizes  setup and
          support;
     o    Redundant server operation for continuous management and monitoring;
     o    Portable and operating system independent architecture;
     o    Call home alert  notification  of a failure or of a system reaching an
          environmental threshold.

        Technical Service

We offer a range of full-time service and support programs through a third party
service  company,  providing  customers  with a variety of on-site and help-desk
support services (see Technical Support and Customer Service).


<PAGE> 7


        SAN Solutions

As an alternative to direct-connect  server-attached storage,  networked storage
architectures  have been  gaining  popularity.  SANs  provide  the  scalability,
accessibility,   and  manageability  to  satisfy  present  and  future  business
computing requirements.

We develop,  test, and install high  availability SAN storage  solutions in both
clustered and heterogeneous  server  environments.  In addition to our SAN-ready
Fibre Channel  products,  we also offer  pre-tested  and certified  switches and
attach kits necessary for a complete SAN architecture.

As the need for storage  continues to grow,  the physical space required to hold
racks of storage  systems  becomes a premium.  We believe our focus on providing
space-sensitive,  high capability,  and fully integrated SAN solutions will help
us compete  successfully  in this  growing  market.  We believe our enhanced SAN
features included in our StorView Storage Management  Software,  further extends
our SAN  installation  and integration  capabilities.  However,  there can be no
assurance that we will be successful in these efforts due to the  possibility of
increased   competition,   the   development   or   advancement  of  alternative
technologies, and other factors.

        PROPRIETARY TECHNOLOGY

We  rely  upon  various   patents,   copyrights  and  trademarks,   as  well  as
non-disclosure and confidentiality  agreements with employees and customers,  to
establish,  protect and preserve our proprietary  rights. Our registered patents
include (i) data storage chassis with adjustable rack mounting,  (ii) disk drive
storage  enclosure with isolated cooling path for storage media, and (iii) front
bezel for disk drive  storage  enclosure.  For a  discussion  of  certain  risks
relating to the protection of our intellectual property rights, see Risk Factors
- Potential Infringement of Intellectual Property Rights.

        SALES AND MARKETING

We market our products and services  through direct sales personnel to end-users
in the United States and indirectly through a global network of OEM partners and
volume channels such as SIs and Value Added Resellers (VARs).

Direct and indirect product sales represented 34% and 61%, respectively,  of our
total sales in 2002, compared to 43% and 35%, respectively,  in 2001, reflecting
the shift in our sales and  marketing  strategy  to  provide  greater  technical
marketing and sales support to our indirect sales function.  In 2002, sales to a
single indirect customer accounted for 43% of our Storage Solutions sales.

Service  contracts,  principally  with end-users,  represented 1% and 22% of our
total Storage Solutions revenues during 2002 and 2001,  respectively.  In August
2001, we sold  substantially all of our servicing  business,  which we currently
contract through a third party service company.

OEM-grade  products are  primarily  sold directly to OEMs for  integration  into
their product offerings. Generally, the OEM products are labeled under the OEMs'
brand name where our products are frequently packaged as part of a complete data
processing  system or combined with other  storage  devices to deliver a storage
subsystem. We believe OEM channel sales provide significant revenue opportunity,
market  visibility  and  credibility,  and can serve as a proving ground for new
technologies  that can later be marketed and sold in the  distribution  channel.
OEMs are strategic in nature and,  therefore,  require unique sales  strategies.
The sales  and  support  organization  must be highly  technical  and  generally
involves several corporate resources.


<PAGE> 8


The sales model for product  distribution in Europe and the  Asia/Pacific-Rim is
similar  to the  domestic  OEM  and  channel  model,  utilizing  SIs  and  VARs.
Complementary  pricing,  margin  structures and marketing  programs support each
sales channel. We believe this strategy allows our customers to effectively sell
and market our products to their specific  marketplace while maintaining channel
integrity.

Our marketing plan utilizes a variety of programs to promote and develop new and
expanding  markets for our product lines and to support our sales strategy.  The
focal  points of this  plan  include  a supply  of  highly  focused  promotional
material including product  specification  literature and application notes, web
site  innovation,   development  and  promotion  of  the  distribution  channel,
strategic media placement, tradeshow participation, and public relations.

        TECHNICAL SUPPORT AND CUSTOMER SERVICE

We provide  technical  support for pre-sales system design and manage post sales
service through our enterprise resource planning software.  Products are tracked
through each stage of engineering, manufacturing and distribution for the entire
life of a product,  and our customer service  department can view the history of
each individual system.

We have a  dedicated  Help Desk to ensure the proper  routing and support of all
incoming   technical  support  calls.  Our  Help  Desk  collects  the  necessary
information, documents the trouble call and then tracks that call throughout the
support.

Our staff is a team of  professionals  who are prepared to assist customers with
any challenges  they might  encounter with regard to their nStor  equipment.  We
respond quickly to technical issues by providing a toll-free phone number, a fax
response line, and the convenience of e-mail.

Our standard  warranty is a three-year  return-to-factory  policy,  which covers
both parts and labor.  We pass on to the customer  the warranty  provided by the
manufacturers  for products that we distribute,  including a five-year  warranty
for disk drives.  We have not experienced  material  warranty  claims;  however,
there can be no assurance that future  warranty  claims will not have a material
adverse effect on our future financial  condition and operating results. We also
offer various levels of on-site service for our products,  for which we contract
primarily with third-party service providers.

        MANUFACTURING AND SUPPLIERS

In July 2002,  we entered  into a  contract  with  Varian,  Inc.  (Varian),  for
outsourcing  the production of our 4000S Series of products.  Based on forecasts
provided by us,  Varian  purchases  most of the  materials  and  components  and
produces our products  utilizing  their own assembly and test labor. We continue
to purchase certain critical components such as power supplies and provide those
components to Varian.  This agreement resulted in immediate  improvements in our
operating margins by lowering  manufacturing  costs, as well as reducing overall
operating  costs.  Our 4000F Series is currently  being  assembled by an interim
outside   contractor.   As  a  result  of  the  decision  to  utilize  outsource
manufacturing,  our manufacturing  operations,  previously located in San Diego,
California, were phased out at the end of the third quarter of 2002.

Our products are assembled from  components  and  prefabricated  parts,  such as
controllers, cabinets, disk drives and power supplies, manufactured and supplied
by others. We work closely with a group of regional,  national and international
suppliers, that are selected based on their ability to provide quality parts and
components that meet our specifications and volume requirements. A number of our
parts  and  components  are  designed  specifically  for  integration  into  our
products.


<PAGE> 9


We depend heavily on our suppliers to provide high quality materials on a timely
basis and at reasonable prices. Although many of the components for our products
are currently available from numerous sources at competitive prices, some of the
components used in our products are presently available from a limited number of
suppliers,  or from a single supplier.  Further,  because of increased  industry
demand for many of those components, their manufacturers may, from time to time,
be  unable  to make  delivery  of our  orders on a timely  basis.  In  addition,
manufacturers of components on which we rely may choose,  for numerous  reasons,
not to  continue  to make  those  components,  or the next  generation  of those
components,  available to us. The inability to obtain a key product component as
needed may cause a reduction in our sales volume.

We have no long-term supply  contracts.  There can be no assurances that we will
be able to obtain,  on a timely basis,  all of the components we require.  If we
cannot  obtain  essential  components  as  required,  we could be unable to meet
demand for our products,  thereby materially  adversely  affecting our operating
results and allowing competitors to gain market share. In addition,  scarcity of
such components could result in cost increases, which could materially adversely
affect our operating results.

The sophisticated  nature of our products requires  extensive testing by skilled
personnel.  We utilize  specialized  testing  equipment and maintain an internal
test-engineering group to provide this product support.

        BACKLOG

Our  products  are  manufactured  based  on  a  forecast  of  near-term  demand.
Accordingly,  we  maintain  inventory  in advance of receipt of firm orders from
customers.  Shipments are generally  made shortly after receipt of a firm order.
We have no long-term  purchase  commitments  from our customers and, in general,
customers  may cancel or  reschedule  orders on 30 days notice with little or no
penalty.  As a  result,  our  backlog  at any  given  time  is  not  necessarily
indicative of future sales levels.

There can be no assurances that orders from existing  customers will continue at
their  historical  levels,  that  we will be able  to  obtain  orders  from  new
customers,  or that  existing  customers  will not  develop  their  own  storage
solutions internally and as a result reduce or eliminate purchases.  Loss of one
or more of our principal customers,  or cancellation or rescheduling of material
orders  already  placed,  could  materially  and adversely  affect our operating
results.

        RESEARCH AND DEVELOPMENT

We have two engineering centers to facilitate our product  development.  Each of
these  centers of  competency  is focused on a  different  aspect of our product
development strategy.

Lake Mary, Florida is the competency center for (i) our enclosure technology and
development,  and (ii) for the development of our RAID controller technology and
Fibre Channel drive firmware qualification for these controllers. In addition to
designing, developing and testing our storage enclosures, engineers in Lake Mary
are also responsible for the design,  development and successful  integration of
controllers (both  nStor-developed  controllers as well as third-party products)
into our enclosure technology. All disk drive compatibility testing with nStor's
product lines (SCSI and Fibre Channel) is conducted in Lake Mary.

In late December 2002, we relocated our San Diego,  California competency center
for our integrated  solutions,  including our SAN integration  lab, to Carlsbad,
California.  Engineers in Carlsbad  integrate the total SAN and general  storage
solutions  that  include  internally  developed  and third  party  software  and
hardware  components.  The SAN  interoperability  lab  focuses on SAN  component
selection and validation, integration and delivery of end-user solutions as well
as  solution  testing  for  all  our  SAN-related  products  and  services.   In
conjunction with the interoperability  lab, Carlsbad hosts the StorView software
development and testing.


<PAGE> 10


The information storage industry is subject to rapid  technological  change. Our
ability to compete successfully is largely dependent upon the timely development
and  introduction  of new products and our ability to anticipate  and respond to
change.  We use  engineering  design  teams that work with  marketing  managers,
application   engineers   and   customers   to  develop   products  and  product
enhancements.  Computer I/O interface  standards are maintained and an extensive
disk drive  qualification  program is in place to monitor  disk drives to ensure
the quality and performance of the disk drives  integrated into our disk arrays.
As part of our development strategy, we actively seek industry leaders with whom
we can initiate co-development activities in the hardware,  software and systems
businesses.

        COMPETITION

The market for storage solutions is subject to intense  competition.  We compete
not only  with  other  enclosure  and disk  array  manufacturers,  but also with
manufacturers  of  proprietary  integrated  computer  systems  and SIs who  sell
computer systems containing  general purpose RAID subsystems,  most of which may
have  significantly  greater  financial  and  technological  resources or larger
distribution capabilities than nStor.

Certain  competitors  may offer their  products at lower sales prices than ours.
Accordingly, we must often compete on the basis of product quality,  performance
and reliability in specific applications.  Our continued ability to compete will
largely depend upon our ability to continue to develop high performance products
at competitive prices while continuing to provide superior technical support and
customer service. For a discussion of certain of our major competitors, see Risk
Factors - Intense Competition.

TELECOMMUNICATION SOLUTIONS

        BACKGROUND

Our entry into the  Telecommunication  Solutions  business began on June 7, 2002
when we  acquired  100% of  Stonehouse,  a Plano,  Texas  based  operation  with
regional offices in Florida and Virginia. Stonehouse is a comprehensive resource
for  Communications  Services  Management  applications  and services  providing
software  and  services   solutions  to  help  large  enterprises  manage  their
communications expenses, assets and processes.

Stonehouse was  established in 1978 as an independent  consulting firm providing
telemanagement   solutions   to  the   operators  of  both  public  and  private
telecommunications  networks.  In  1983,  Stonehouse  introduced  its  MONIES(R)
telemanagement  software,  positioning  Stonehouse as a leader in  comprehensive
telemanagement  systems.  In  2002,  Stonehouse  completed  the  development  of
MONIESWeb(R),  a web-based  telemanagement  software  solution.  Stonehouse  has
experience in providing  telemanagement  systems to manage large,  complex voice
and data networks in both the private and  government  arenas,  and has licensed
systems to many customers in the U.S., Mexico, Canada, Australia,  Saudi Arabia,
and Japan. See Target Market for a discussion of industries and organizations in
which we provide services.

Stonehouse  solutions  include a suite of modular  applications,  with  multiple
delivery options,  consulting services provided by hands-on  professionals,  and
outsourced managed services.  Stonehouse's  Communications  Services  Management
solutions  enable  enterprises  to manage voice,  data and wireless  services by
providing a systematic approach to automate order processing,  monitor expenses,
manage vendor invoices, track inventory of assets and accurately allocate costs.
Customers realize benefits of cost savings,  increased  management control,  and
productivity improvements.


<PAGE> 11


        INDUSTRY

With  telecommunication  deregulation and the onset of the Internet,  businesses
are  facing  an  increasingly  complex  operating   environment  and  escalating
expenses.  Today's corporate  telecommunications  managers have to keep track of
local, long distance and wireless services and equipment,  wide-area networking,
Internet access, voice and data circuits,  pagers and other wireless devices. In
addition to the increasing  number of service plans,  there are a growing number
of providers,  all of whom have their own billing formats,  pricing schemes, and
service  level  guarantees.  Organizations  today  are  devoting  more  and more
financial and human resources to managing their communications  function,  while
pressure  increases for reducing expense.  The management issue is becoming even
more complex as networks  converge  where  multiple  voice and data services are
provided via a single  network and managers are forced to track how bandwidth is
used and allocated.  Most companies are currently managing their  communications
services expenses and assets with point solutions and homegrown spreadsheets. As
businesses manage complex and evolving  communications  services, the need for a
comprehensive, systematic solution is growing daily.

These  trends have  offered us a window of  opportunity  to  participate  in the
telecommunications  services  management  market and growth.  We believe we have
competitive advantages,  including a comprehensive suite of applications used by
Fortune 300 and large  government  organizations;  customers  who have been with
Stonehouse,  on average, over ten years; a recurring revenue stream from product
maintenance; and an experienced management team.

        PRODUCTS AND SERVICES

Our  principal  business is to provide  applications,  professional  and managed
services for solving day-to-day  challenges in managing  communication  services
expenses, assets and processes.

               Communication Services Management Applications

                      MONIES(R)

MONIES(R)  (Management of Network  Income,  Expense,  and Services),  a modular,
fully integrated suite of applications  which assists  customers in centralizing
their  processing and tracking of  communications  assets and expenses,  reduces
billing  errors,  consolidates  inventory  and  invoice  data,  and  streamlines
internal ordering processes. Modules include:

     o    Order  management for  streamlining  the service  request  process for
          move,  adds,  and changes,  and  automatically  updating the inventory
          database;
     o    Inventory  management  to  centralize  data on  assets  and  services,
          including the tracking of cable plant;
     o    Invoice   management  to  consolidate   bills  and  reconcile  against
          inventory;
     o    Billing management to efficiently allocate expenses;
     o    MasterMined  for collecting and processing  call records and detecting
          fraud and abuse;
     o    Network analysis to optimize trunk utilization;
     o    Problem  management to process  trouble  tickets,  track and report on
          network troubles;
     o    Report writer for generating  standard and ad-hoc management  reports;
          and
     o    Web-based Bill Presentment for distributing usage and charge-back data
          to end-users.

MONIES(R) is available as an on-site  solution or as a hosted  application in an
ASP (Hosted Application  Services)  environment.  The ASP offering provides full
remote access to the  Communication  Services  Management  solution with minimal
up-front investment in hardware,  software and personnel. The MONIES(R) features
include  built in  security,  on-line  access,  over 200 reports  and  virtually
unlimited multi-site,  multi-user  capability.  Access to the data center can be
direct or over the Internet.


<PAGE> 12


MONIES(R) is available in several versions  including:  (i) Mainframe,  designed
for IBM SNA  environments,  (ii) RS/390 servers and in OS/2 or UNIX AIX (RS/390)
environments,  or (iii) a Windows GUI version available with Windows. Our hosted
applications  service does not require the customer to secure on-site processing
equipment, is available to multiple customers and is running on an IBM 390.

                      MONIESWeb(R)

MONIESWeb(R),   a  web-based   software  solution  built  on  a  component-based
architecture using standard operating software,  is implemented using the Oracle
Database  Management  System and JAVA.  Requiring  only a browser,  MONIESWeb(R)
provides total workstation independence for the end-user. Implemented using JAVA
standards,  this product runs on Windows NT,  UNIX,  Oracle and most  enterprise
JAVA application servers. MONIESWeb(R) provides a feature-rich browser-based web
interface  enabling  users to access the system from  anywhere  with an Internet
connection.

MONIESWeb(R)  was developed  during 2002 and has been available to our customers
since the first quarter of 2003.

               Professional Services

We offer a flexible  range of  Professional  Services  and a  standard  services
methodology,  Pathway,  to assist with  implementation and provide  assessments,
reviews and advice. Experienced industry professionals provide:

     o    Process and procedure optimization;
     o    Vendor invoice review and audit;
     o    Comprehensive asset inventory creation;
     o    Requirements  definition  and RFP (Request for  Proposal)  support;
     o    Applications installation and implementation; and o Customized product
          and process training.

               Managed Services

We  offer  customers  the  convenience  of  implementing   flexible  outsourcing
services. Our Managed Services team offers outsourced services such as:

     o    Moves, adds and changes;
     o    Asset and service inventory tracking;
     o    Cost controls and expense allocation;
     o    Vendor invoice reconciliation and verification;
     o    Help desk services; and
     o    Contract negotiation and vendor management.

Our Professional Services team provides the installation,  integration, training
and consulting support. As customer  requirements  expand, we also offer turnkey
managed solutions from assuming responsibility for one function, such as billing
management, to complete outsourcing of a customer's  communications  operations.
Implementing   our   applications   and  services  can  help  companies   reduce
communications  services  expenses,  improve  productivity,  and gain management
control of its operating environment.


<PAGE> 13


        SALES AND MARKETING

        Target Market

Our applications and services are targeted to large  corporations  (greater than
1,000  employees),   educational  institutions,   state  governments  and  other
organizations with large and complex public,  private, and hybrid communications
networks.  The solution set is aimed at organizations that require comprehensive
management,  including billing, work order, inventory, and problem management as
well as network and  traffic  analysis  functions.  Our target  markets  include
industries and organizations in government,  education,  finance,  petroleum and
chemical, transportation, entertainment, utilities and telecommunications.

        Distribution Strategy

Currently,  we market our products and services  through a direct sales force as
our primary source of distribution, augmented by informal co-marketing and other
partnership arrangements.

EMPLOYEES

As of February 28, 2003,  we employed 81  full-time  employees,  of which 48 are
employed  in  our  Storage  Solutions  business  (27  in  engineering,   product
development and technical support, 9 in sales and marketing,  5 in manufacturing
and  operations,  and 7 in finance,  management and  administration)  and 33 are
employed in our Telecommunication  Solutions business (4 in sales and marketing,
9 in custom operations/outsourcing, 4 in customer care, 9 in technology services
and 7 in finance, management and administration).  Our employees are not covered
by collective  bargaining  agreements and there have been no work stoppages.  We
believe our employee relations are good.

We believe  that our future  success  will  largely  depend  upon our ability to
continue to attract, employ and retain competent qualified technical,  marketing
and management personnel.  Experienced personnel are in great demand and we must
compete  with other  technology  firms,  some of which may offer more  favorable
economic incentives to attract qualified personnel.

RISK FACTORS

In addition to the various risks ordinarily attendant to investments in entities
in the technology industry,  certain other material risk factors relating to our
company  and its  business  present a  particularly  high  degree  of risk.  The
specific risks set forth below are not considered,  or deemed,  to be exhaustive
or definitive of all the material risks involved in our business.

        Recent Losses; Capital Needs

We have  experienced  negative  cash  flows  from  operations,  decreased  sales
revenues and substantial net losses for the years ended December 31, 2002, 2001,
and 2000 of $8  million,  $14  million and $21.9  million,  respectively.  As of
December 31, 2002, we had negative working capital of $6.9 million. There can be
no  assurances  that we will be able to achieve or maintain  profitability  on a
quarterly or annual basis or that we will be able to achieve revenue growth.

Since January 1, 2001, and through  February 28, 2003, we obtained $21.7 million
of equity and debt financing  from private  investors.  Of these amounts,  $12.1
million was received from Maurice Halperin,  the Company's Chairman of the Board
since August 2001 and a principal  stockholder,  or companies  controlled by Mr.
Halperin (collectively, Mr. Halperin), consisting of $6 million in cash and $6.1
million  in  marketable  securities  (see  Note  3  to  Consolidated   Financial
Statements).  Equity and debt  financing  obtained  from  January  2001  through
February  28, 2003,  also  included  $6.9 million from H. Irwin Levy,  our Chief
Executive Officer,  Vice Chairman of the Board and a principal  shareholder,  or
companies controlled by Mr. Levy (collectively, Mr. Levy).


<PAGE> 14


We are currently  exploring  alternatives for raising  additional debt or equity
capital to finance  our  short-term  and  long-term  plans as well as  operating
deficits expected to be incurred until we begin to generate  positive  operating
cash flows.  However,  due to  conditions  in the  technology-related  financial
markets and other  uncertainties,  many of which are outside our control,  there
can be no assurances  that such required  additional  funds will be available on
terms acceptable to us, if at all, or that we will be able to generate  positive
cash flows from operating activities in the future.

        Fluctuations in Operating Results

We have experienced significant  period-to-period  fluctuations in our operating
results.  These  fluctuations are partially due to product design,  development,
manufacturing  and marketing  expenditures.  If significant  variations  were to
occur between  forecasts and actual orders with respect to our products,  we may
not be able to reduce our expenses  proportionately  and operating results could
be materially  adversely  affected.  Our revenues in any period are dependent on
the timing of product shipments,  the status of competing product introductions,
as well as the  availability  from suppliers of component parts required for our
products.  Like many other  technology  companies,  a  disproportionately  large
percentage of our Storage Solutions sales may occur in the closing weeks of each
period. Any  forward-looking  statements about operating results made by members
of our management  will be based on assumptions  about the likelihood of closing
anticipated  sales and other factors  management  considers  reasonable based in
part on knowledge of performance in prior periods. The failure to consummate any
of those sales may have a  disproportionately  negative  impact on our operating
results, due to our fixed costs, and may thus prevent  management's  projections
from being realized.

        Inability to Attract and Retain Qualified Employees

Our ability to provide high-quality  products on a timely basis requires that we
employ an adequate number of skilled engineers and technicians. Accordingly, our
ability to increase our  productivity and  profitability  will be limited by our
ability to attract and retain skilled personnel.  We may not be able to maintain
an adequate skilled labor force necessary to operate  efficiently and to support
our  growth  strategy  and our  labor  expenses  may  increase  as a result of a
shortage in the supply of skilled personnel.

        New Line of Products

During  2002,  we  introduced  new  products in both our Storage  Solutions  and
Telecommunication  Solutions  businesses  and are  encouraging  our customers to
migrate to these new  products.  These  activities  entail a number of risks and
uncertainties,  all of which  could have a material  and  adverse  affect on our
business.  Those risks and uncertainties,  include,  but are not limited to, the
following:

     o    customer orders may be delayed while customers evaluate new products;
     o    the new line of products may contain unknown defects or "bugs";
     o    customers may not purchase the new products; and
     o    it may be more  difficult  to  accurately  predict  future  sales  and
          financial performance.

        Rapid Technological and Customer Preference Changes

Our businesses are  characterized by rapid  technological  change,  frequent new
product  introductions and evolving industry standards.  Customer preferences in
this market are  difficult  to predict and  changes in those  preferences  could
render our current or future  products  unmarketable.  The  introduction  by our
competitors  of products  embodying  new  technologies  and the emergence of new
industry  standards  could  render  our  existing  products  as  well as our new
products being introduced  obsolete and unmarketable.  For example, if customers
were to turn away from open systems  computing,  our Storage Solutions  revenues
would decline dramatically.


<PAGE> 15


Our  success  depends  upon our  ability to  address  the  increasing  technical
requirements  of  customers,  to enhance  existing  products  and to develop and
introduce,  on a timely basis, new competitive  products (including new software
and hardware and enhancements to existing  software and hardware) that keep pace
with technological  developments and emerging industry  standards.  If we cannot
successfully  identify,   manage,   develop,   manufacture  and  market  product
enhancements  or new products,  our business  will be  materially  and adversely
affected.

        Intense Competition

The markets in which our  businesses  operate  are  intensely  competitive.  For
example,  in  our  Storage  Solutions  business,  we  compete  with  traditional
suppliers of computer systems such as Hewlett-Packard, Sun Microsystems, IBM and
Dell, which market storage systems as well as other computer products, and which
recently have become more focused on marketing storage systems.  We also compete
against independent storage system suppliers including, but not limited to, EMC,
including  its  Clariion   division,   MTI  Technologies  and  Dot  Hill.  Major
competitors in our indirect customer business include Eurologic Systems, Xyratex
and JMR Electronics.

In our  Telecommunication  Solutions  business,  we  compete  with a variety  of
specialized software and outsourcing service providers.  Many of these providers
offer more limited software and services solutions than the solutions offered by
Stonehouse.

Many of these  competitors are significantly  larger than our company,  and have
significantly  greater  financial,  technical,  marketing,  purchasing and other
resources  than we do, and as a result may be able to respond more  aggressively
to new or emerging technologies and changes in customer requirements,  or devote
greater  resources to the  development,  promotion  and sale of products than we
can, or to deliver competitive products at a lower price.

Increased competition is likely to result in price reductions, reduced operating
margins and loss of market  share,  any of which  could have a material  adverse
effect on our  business,  operating  results or  financial  condition.  In fact,
competitive  pricing  pressures  have had, and may continue to have,  an adverse
effect on our revenues and earnings.

If we are unable to develop and market products to compete with our competitors'
products,  our business will be materially adversely affected.  In addition,  if
major customers who are also  competitors  cease purchasing our products so that
they can  concentrate  on sales of their own  products,  our  business  could be
materially adversely affected.

        Pending Litigation

In June and August 1996,  our company and two of our then  directors were served
with two  separate  complaints  filed in the  Supreme  Court of the State of New
York,  County of Nassau,  in which the plaintiffs  claim to have had contractual
and proprietary  interests in the prospect of a transaction to purchase  certain
net assets acquired by us. The plaintiffs seek  compensatory  damages,  punitive
damages,  and equitable  relief for alleged  interference  with the  plaintiffs'
alleged rights and for alleged breach of contract.  Our counsel believes that we
have good  defenses  to both  claims  and that we will not  incur  any  material
liability.  We are  not  aware  of  any  facts  that  would  support  any of the
plaintiffs'  claims  and,  accordingly,  we believe  that the claims are without
merit.


<PAGE> 16


In February  2002,  W. David  Sykes,  our former  Executive  Vice  President  of
Marketing  and Sales filed a complaint  against us in the Circuit  Court of Palm
Beach County,  Florida,  in which he claims he was wrongfully  terminated  under
provisions  of his  employment  agreement  with us. We believe  that we acted in
accordance with the termination  provisions of the agreement and that no further
compensation  or benefits are due. We believe that we have good  defenses to the
claim and that we will not incur any material liability.

        Lack of Long Term Contracts

We generally do not enter into long-term purchase commitments with our customers
and customers  generally  have certain rights to extend or to delay the shipment
of their orders, as well as the right to return products and cancel orders under
certain circumstances.  The cancellation or rescheduling of orders placed by our
customers,  or the return of  products  shipped to them,  could  materially  and
adversely affect our business.

        Product Defects

Our  products  may contain  undetected  software or firmware  errors or hardware
failures when first  introduced  or as new versions are  released.  We cannot be
certain that,  despite  testing,  errors will not be found in new products after
commencement of commercial shipments.

Our standard  warranties provide that if a system does not function to published
specifications we will repair or replace the defective component without charge.
Although warranty costs have not been material,  unexpected significant warranty
costs could have a material adverse effect on our business.

        Availability of Competing Products

In the United States,  we sell our Storage Solutions through both a direct sales
force and through indirect sale channels.  Our OEMs, VARs and SIs may also carry
competing  product lines, and could reduce or discontinue sales of our products,
which could have a material adverse effect on our operating results.

        A Significant Percentage Of Our Expenses Are Fixed Which May Affect Our
        Operating Results

Our expense levels are based in part on our expectations as to future sales, and
a significant  percentage of our expenses are fixed, which limits our ability to
reduce expenses quickly in response to any revenue  shortfalls.  As a result, if
revenues  do  not  meet  our  revenue  projections,  operating  results  may  be
disproportionately  affected.  We may experience  revenue shortfalls for various
reasons, including:

     o    sudden  shortages of raw  materials or  fabrication,  test or assembly
          capacity  constraints  that lead our  suppliers to allocate  available
          supplies or capacity to other customers,  which, in turn, may harm our
          ability to meet our sales obligations; and
     o    the reduction, rescheduling or cancellation of customer orders.

In addition,  we typically plan our Storage  Solutions  production and inventory
levels  based  on  internal  forecasts  of  customer  demand,  which  is  highly
unpredictable and can fluctuate  substantially.  In response to anticipated long
lead times from our outside  suppliers,  we generally order certain materials in
advance of  anticipated  customer  demand.  This advance  ordering may result in
excess  inventory  levels or  unanticipated  inventory  write-downs  if expected
orders fail to materialize.


<PAGE> 17


        Lengthy Sales Cycles

Customer orders generally range in value from a few thousand dollars to hundreds
of  thousands  of dollars.  The length of time  between  initial  contact with a
potential customer and sale of a product or service,  or "sales cycle", also can
vary greatly and can be as long as twenty-four months. This is particularly true
for the sale and installation of complex,  turnkey  solutions.  Our revenues are
likely to be affected by the timing of larger  orders,  which makes it difficult
for us to predict such revenues.  Revenue for a period could be reduced if large
orders forecasted for a certain period are delayed or are not realized.  Factors
that could delay or defer an order include:

     o    time needed for technical evaluation by customers;
     o    customer budget  restrictions and changes to budgets during the course
          of a sales cycle;
     o    customer internal review and testing procedures; and
     o    engineering  work needed to integrate our solutions  with a customer's
          system.

        Potential Infringement of Intellectual Property Rights

We rely on a combination  of trade  secrets,  copyrights,  trademarks,  patents,
domain names and employee and  third-party  nondisclosure  agreements to protect
our intellectual  property rights. The steps taken to protect our rights may not
be  adequate  to  prevent  misappropriation  of our  technology  or to  preclude
competitors  from  developing  products with  features  similar to our products.
Furthermore,  third parties may assert  infringement  claims  against us or with
respect to our products for which we have indemnification obligations to certain
of our customers.  Asserting our rights or defending against  third-party claims
could involve substantial expense, which could have a material adverse effect on
our  operating  results.  In the event a third party were  successful in a claim
that one of our products infringed the third party's  proprietary rights, we may
have to pay  substantial  damages or  royalties,  remove that  product  from the
marketplace or expend substantial amounts in order to modify the product so that
it no longer  infringes  such  proprietary  rights,  any of which  could  have a
material adverse effect on our operating results.

        Loss of Key Suppliers

We rely on other  companies  to supply  certain key  components  for our Storage
Solutions  products.  Our products are typically designed to operate with unique
components that are available from a single source. For example,  certain of our
products are dependent upon RAID controllers designed by one supplier.  Although
we can use  other  suppliers,  the delay in  integrating  these  parts  into our
systems will  increase  product  costs.  Other  critical  components,  while not
dependent  on one  source,  may,  from  time to  time,  be in  short  supply  or
unavailable  for a period of time while  alternative  sources can be identified.
Modification to the particular  products,  requalification  of the products with
applicable  regulatory  agencies,  and additional testing to assure software and
hardware is compatible can result in lost or deferred  revenue as well as higher
product costs.

In addition,  we resell  subsystems,  software and  services  from others.  This
leaves  us  vulnerable  to  inadequate  supply,  uneven  allocation  in times of
shortage, delays in order fulfillment, and order cancellations.

        Concentrated Customer Base

In  2002,  sales  to two  customers  accounted  for 43%  and 13% of our  Storage
Solutions  sales  and  sales  to a  single  customer  accounted  for  29% of our
Telecommunication  Solutions  sales.  Based on a  revised  agreement  with  this
particular  Telecommunication  Solutions  customer,  we  expect  a  decrease  in
revenues in 2003 attributable to this customer.  In 2001, one customer accounted
for 12% of our Storage Solutions sales.


<PAGE> 18


The recent  economic  downturn  in  technological  spending  in  addition  to an
economic  downturn in general in any industry or  geographical  area targeted by
us, or the loss of one or more customers,  particularly a significant  customer,
could result in a material decrease in revenues,  thereby  materially  adversely
affecting our operating results.

        Volatile Stock Price

Our  common  stock has  experienced  in the past,  and could  experience  in the
future,  substantial  price  volatility  as a  result  of a number  of  factors,
including:

     o    quarter  to  quarter  variations  in actual or  anticipated  financial
          results;
     o    announcements  by us, our  competitors or our customers;
     o    government regulations; and
     o    developments   in  the  information   storage  and   telecommunication
          management industries.

The stock  market has also  experienced  extreme  price and volume  fluctuations
which has  affected the market  price of many  companies  and which has at times
been  unrelated to the operating  performance  of the specific  companies  whose
stock is traded.  Broad  market  fluctuations,  developments  in the  technology
industry,  general  economic  conditions  and political  and current  events may
adversely affect the market price of our common stock.

In addition,  if our current security  holders sell  substantial  amounts of our
common stock,  in the public market,  the market price of our common stock could
fall.

        Insufficient Funding

We have  expended and may be required to expend  substantial  funds for research
and development, and for other aspects of our business. Accordingly, we may need
or elect to raise additional  capital.  Our capital  requirements will depend on
many factors, including:

     o    the   problems,   delays,   expenses  and   complications   frequently
          encountered by technology companies;
     o    the  progress  of  our  research,   development  and  product  testing
          programs;
     o    the success of our sales and marketing programs;
     o    costs in filing,  prosecuting,  defending and  enforcing  intellectual
          property rights;
     o    the extent  and terms of any  collaborative  research,  manufacturing,
          marketing or other arrangements; and
     o    changes in  economic,  regulatory  or  competitive  conditions  or our
          planned business.

Estimates  about the adequacy of funding for our activities are based on certain
assumptions,  including the assumption  that research,  development  and testing
related to our products under  development  can be conducted at projected  costs
and within  projected  time frames and that such  products  can be  successfully
marketed.

To satisfy our capital requirements, we may seek to raise funds in the public or
private capital markets.  Our ability to raise additional funds in the public or
private  markets  will be  adversely  affected  if the results of our ongoing or
future  research  and  development  programs  are  not  favorable.  We may  seek
additional   funding  through  corporate   collaborations  and  other  financing
vehicles.  Such funding may not be  available,  or if  available,  it may not be
available on acceptable  terms.  If adequate funds are not available,  we may be
required  to curtail  our  operations  significantly,  or we may be  required to
obtain funds through arrangements with future  collaborative  partners or others
that may require us to relinquish  rights to some or all of our  technologies or
products  under  development.  If we  are  successful  in  obtaining  additional
financing,  the  terms of the  financing  may have the  effect  of  diluting  or
adversely  affecting  the  holdings  or the rights of the  holders of our common
stock.


<PAGE> 19


        Our  Auditor's Have Expressed  Substantial  Doubt as to Our  Ability  to
        Continue as a "Going Concern"

The auditors'  reports for our consolidated  financial  statements for the years
ended December 31, 2002, 2001 and 2000 state that given our recurring  operating
losses and our  continued  experience  of negative  cash flows from  operations,
there is substantial  doubt about our ability to continue as a going concern.  A
"going-concern"  opinion indicates that although there is substantial doubt, the
financial  statements  have been  prepared on a  going-concern  basis and do not
include  any   adjustments  to  reflect  the  possible  future  effects  on  the
recoverability and classification of assets or the amounts and classification of
liabilities that may result from the outcome of this uncertainty.

        Maintenance of American Stock Exchange (AMEX) Listing

On May 28, 2002, we received  correspondence  from AMEX  regarding the potential
delisting  of our common  stock from AMEX due to our failure to meet  certain of
AMEX's continued listing standards,  related to minimum shareholders' equity and
our ability to continue  operations  and/or meet our obligations as they mature.
On June 26, 2002, we submitted a plan and supporting documentation (the Plan) to
AMEX to demonstrate our ability to regain  compliance.  On August 13, 2002, AMEX
notified us that it had accepted  our Plan and granted us an  extension  through
June 20, 2003 within which we must regain compliance, subject to periodic review
by AMEX's Staff.  Failure to make progress consistent with the Plan or to regain
compliance  with the  continued  listing  standards by the end of the  extension
period  could  result in our stock being  delisted.  We believe  that we will be
successful in regaining  compliance,  although there can be no assurance that we
will regain such compliance or that we will remain listed on AMEX.  Delisting of
our common stock may have an adverse impact on the market price and liquidity of
our common stock.


Item 2.  Properties

In December 2002, we relocated our principal  executive,  administrative,  sales
and operating  activities  from San Diego,  California  to Carlsbad,  California
where we currently sublease  approximately  20,000 square feet through September
2005. The present annual base rent for our Carlsbad facility is $188,000.

We lease  approximately  7,000 square feet of office and warehouse space in Lake
Mary,  Florida,  under a lease  agreement  that expires in May 2006. The present
annual base rent is approximately $53,000.

Our  telecommunications  headquarters  consists of 12,500  square feet in Plano,
Texas under a lease that expires in August 2003. The present annual base rent is
$256,000.

We believe our existing  facilities are adequate to meet future needs.  See Note
17 to Consolidated  Financial Statements for information regarding the Company's
obligations under its facilities leases.


Item 3.  Legal Proceedings

In June 1996, Jack Ehrenhuas, Mark Schindler, Eugene Stricker, Amnon Damty, Ehud
Mendelson  and Susan Felton filed a Complaint in the Supreme  Court of the State
of New York, County of Nassau, against us and Michael Wise, our then Chairman of
the Board and a current  director.  The plaintiffs claim to have contractual and
proprietary  interests in the prospect of a transaction to purchase  certain net
assets acquired by us and seek compensatory damages plus punitive damages.


<PAGE> 20


In August 1996, The Nais  Corporation,  Mark Schindler,  Eugene Stricker,  Amnon
Damty,  Ehud  Mendelson  and Susan  Felton  filed a Complaint  in the same Court
making similar allegations against one of our subsidiaries,  its then president,
R. Daniel Smith,  and a company  controlled by Mr.  Smith.  In this action,  the
plaintiffs seek compensatory damages plus punitive damages for alleged breach of
contract.

Both cases are  currently in discovery.  Our counsel  believes that we have good
defenses to both claims and that we will not incur any  material  liability.  We
are unaware of any facts that would support any of the  plaintiffs'  claims and,
accordingly, we believe that the claims are without merit.

In February  2002,  W. David  Sykes,  our former  Executive  Vice  President  of
Marketing and Sales,  filed a complaint  against us in the Circuit Court of Palm
Beach County,  Florida,  in which Mr. Sykes claims he was wrongfully  terminated
under  provisions of his employment  agreement with us. We believe that we acted
in  accordance  with the  termination  provisions  of the  agreement and that no
further  compensation  or benefits are due to Mr. Sykes. We believe that we have
good defenses to the claim and that we will not incur any material liability.

From time to time, we are subject to legal  proceedings and other claims arising
in the ordinary  course of business.  In our opinion,  we are not a party to any
litigation  the  outcome of which  would have a material  adverse  effect on our
business or operations.


Item 4.  Submission of Matters to a Vote of Security Holders

On October 8,2002,  we held our Annual Meeting of Stockholders.  At the meeting,
the  shareholders  approved  all  matters  considered  with the  following  vote
distributions:

Items:

To approve the  issuance of (a)  4,527,027  shares of nStor  Technologies,  Inc.
common stock upon  conversion of nStor's Series L Convertible  Preferred  Stock,
and (b) up to 8,687,258 shares of nStor common stock as earn-out  consideration,
to Pacific Technology Group, Inc.:

                   FOR                      AGAINST                 ABSTAIN
               83,670,767                   177,378                22,515,509
               ----------                   -------                ----------

To approve the issuance of shares of nStor  common  stock to Halco  Investments,
L.C. in  connection  with the potential  conversion  of a $3,100,000  promissory
note:

                   FOR                      AGAINST                 ABSTAIN
               64,130,617                   179,806                42,053,233
               ----------                   -------                ----------

To approve  the  issuance  of shares of nStor  common  stock to H. Irwin Levy in
connection with the potential conversion of a $650,00 promissory note:

                   FOR                      AGAINST                 ABSTAIN
               83,662,982                   131,429                22,569,243
               ----------                   -------                ----------


<PAGE> 21


To approve the  issuance of up to  30,000,000  shares of nStor common stock upon
the  potential  exercise of an option  granted to Pacific  Technology  Services,
Inc.:

                   FOR                      AGAINST                 ABSTAIN
               106,117,267                  174,124                 72,263
               -----------                  -------                 ------

To approve an amendment to nStor's  Certificate of Incorporation  increasing the
number of authorized shares of common stock from 200,000,000 to 230,000,000:

                   FOR                      AGAINST                 ABSTAIN
               106,060,160                  289,085                 14,409
               -----------                  -------                 ------

To amend  nStor's  2001  Stock  Option  Plan to  increase  the  number of shares
reserved for issuance from 5,000,000 to 7,500,000:

                   FOR                      AGAINST                 ABSTAIN
               120,353,128                  700,945                 13,811
               -----------                  -------                 ------

To elect five persons to nStor's board of directors:

                                            FOR          VOTE WITHHELD
        Roger H. Felberbaum             120,746,710         321,183
                                        -----------         -------
        Bernard R. Green                120,746,502         321,282
                                        -----------         -------
        Maurice A. Halperin             120,139,202         928,682
                                        -----------         -------
        H. Irwin Levy                   120,676,097         391,787
                                        -----------         -------
        Michael L. Wise                 120,727,466         340,418
                                        -----------         -------

To ratify the  re-appointment  of Swenson  Advisors  LLP as nStor's  independent
auditors for 2002:

                   FOR                      AGAINST                 ABSTAIN
               120,959,762                  64,357                  43,765
               -----------                  ------                  ------


                                     PART II

Item 5.  Market for Our Common Equity and Related Stockholder Matters

Our common stock is traded on the AMEX under the symbol NSO. The following table
sets forth the high and low sales  prices of our common  stock for each  quarter
during the years ended  December  31, 2002 and 2001 as reported by AMEX.  During
that period,  we did not pay  dividends on our common stock and we do not expect
to pay any dividends in the near future.

                                      Market Price Range
                                     --------------------

        2002                           High         Low
        ----                         --------    --------
     First quarter                   $  .48      $  .20
     Second quarter                     .41         .21
     Third quarter                      .30         .20
     Fourth quarter                     .27         .19

        2001
        ----
     First quarter                   $ 2.00      $  .60
     Second quarter                     .90         .30
     Third quarter                      .58         .35
     Fourth quarter                     .49         .23


<PAGE> 22


As of February 28, 2003, we had 142,076,947  shares of common stock  outstanding
and approximately 1,775 holders of record of such stock.

Recent Sales of Unregistered Securities and Use of Proceeds

Effective  October 8, 2002,  we issued  4,527,027  shares of our common stock to
Pacific  Technology  Group, Inc. upon the conversion of our Series L Convertible
Preferred Stock (see Note 2 to Consolidated Financial Statements). This issuance
was exempt from registration under Section 4(2) of the Act.


Item 6.  Selected Financial Data
         (dollars in thousands, except per share data)

The following table summarizes certain selected consolidated  financial data for
the five years ended December 31, 2002.

Certain amounts for years prior to 2002 have been reclassified to conform to the
2002 presentation.  These  reclassifications  had no impact on operating results
previously  reported.  The  selected  financial  data has been  derived from our
audited consolidated  financial statements and is qualified by reference to, and
should be read in conjunction  with, the Consolidated  Financial  Statements and
Notes thereto and "Management's  Discussion and Analysis of Financial  Condition
and Results of Operations", included elsewhere in this report:

<TABLE>
<CAPTION>

                                                              Year Ended December 31,
                                        ------------------------------------------------------------------
                                          2002(1)       2001          2000          1999(4)         1998
                                        --------     --------       --------       --------      ---------
<S>                                     <C>           <C>           <C>            <C>            <C>
Sales                                   $10,790       $17,886        $40,197       $41,089        $18,026
Gross margin                              2,898         2,049          9,872         9,763          2,768

Net loss                                 (7,984)      (13,958)       (21,921)(3)   (18,704)(5)    (10,407)

Net loss available to
  common stock                           (7,984)      (18,518)(2)    (22,606)      (19,938)       (11,888)

Basic and diluted net loss
  per common share                         (.06)         (.41)          (.69)         (.89)          (.63)

Weighted average number of common
  shares considered outstanding,
  basic and diluted                    128,899,148    44,832,503     32,789,832    22,505,084     18,888,911

At end of year:

Total assets                             14,182        11,968         15,722        34,041         14,128

Long-term debt                            3,100         3,600          7,258         6,329          7,043

Shareholders' equity (deficit)            1,620           487        ( 7,526)        6,273          3,150

</TABLE>

-------
(1) Includes  results of  operations  of  Stonehouse  beginning  June 2002, as a
result of our  acquisition  which was accounted for using the purchase method of
accounting.
(2) Includes non-cash charge of $3 million for induced conversion of convertible
preferred stock.
(3)  Includes  charge of $12  million for  impairment  of  unamortized  goodwill
related to an acquisition completed in 1999 and gain of $5.6 million on the sale
of assets.
(4) Includes results of operations of Andataco,  Inc.  beginning June 1999, as a
result of our  acquisition  which was accounted for using the purchase method of
accounting.
(5)  Includes  charge of $4.6 million for  impairment  of  unamortized  goodwill
related to an acquisition completed in 1996.


<PAGE> 23


Item 7.  Management's Discussion and Analysis of Financial Condition and Results
         of Operations

Forward-Looking Statements

With  the  exception  of  the  discussion  regarding   historical   information,
"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations"  and  other   discussions   elsewhere  in  this  Form  10-K  contain
forward-looking   statements.  Such  statements  inherently  involve  risks  and
uncertainties  that could cause  actual  results to differ  materially  from the
forward-looking  statements.  Factors  that would  cause or  contribute  to such
differences  include, but are not limited to, our inability to increase sales to
current customers and to expand our customer base,  continued  acceptance of our
products in the marketplace, timing and volume of sales orders, our inability to
improve  the  gross  margin  on  our  products,   material  cost   fluctuations,
competitive factors,  dependence upon third-party vendors, our future cash flows
and  ability  to  obtain  sufficient  financing,  level of  operating  expenses,
conditions  in the  technology  industry  and  the  economy  in  general,  legal
proceedings  and other risks  detailed in our periodic  report  filings with the
Securities and Exchange Commission (SEC). Historical results are not necessarily
indicative of the operating result for any future period.

Subsequent  written and oral  forward-looking  statements  attributable to us or
persons  acting on our behalf  are  expressly  qualified  in their  entirety  by
cautionary  statements  in this Form 10-K and in other reports we filed with the
SEC.  The  following   discussion   should  be  read  in  conjunction  with  the
Consolidated  Financial  Statements and the Notes thereto included  elsewhere in
this report.

Overview

Since June 1996, we have been a designer,  developer and manufacturer of Storage
Solutions.  In June 2002, we entered the  Telecommunication  Solutions  business
with our acquisition of Stonehouse.  Accordingly, we believe that the comparison
between 2002 and 2001 may not be  meaningful in certain  respects.  In addition,
due to the fact that  Stonehouse's  operating  results  were not included in our
consolidated  financial  statements  until June 2002, we expect that many of the
components of our future operating results will increase in 2003.

Going-Concern

With  respect to our  consolidated  financial  statements,  for the years  ended
December 31, 2002,  2001 and 2000,  we have received a  "going-concern"  opinion
from our  auditors.  As more fully  described  in the notes to the  consolidated
financial   statements,   our  recurring  operating  losses  and  our  continued
experience of negative cash flows from operating  activities  raise  substantial
doubt  about our  ability to  continue  as a going  concern.  A  "going-concern"
opinion  indicates  that  although  there is  substantial  doubt,  the financial
statements  have been prepared on a  going-concern  basis and do not include any
adjustments  to reflect the possible  future effects on the  recoverability  and
classification  of assets or the amounts and  classification of liabilities that
may result from the outcome of this uncertainty.

Comparison of Years Ended December 31, 2002 and 2001

For the year ended  December 31,  2002,  we reported a net loss of $8 million as
compared to a net loss of $14 million for the year ended December 31, 2001.


<PAGE> 24


Sales

Sales for 2002 were  $10.8  million as  compared  to $17.9  million  in 2001,  a
decrease  of  $7.1  million.  Included  in  sales  for  2002  was  $2.9  million
attributable to our Telecommunication Solutions business following our June 2002
acquisition  of  Stonehouse.  The 56%  decline in our  Storage  Solutions  sales
reflects  the economic  downturn  that has caused  customer  delays in acquiring
technology and other capital  equipment,  in addition to the transition from our
older  technology  legacy products to our new product family centered around our
NexStor 4000 Series.

During 2002,  indirect sales to OEMs and other channel business  represented 64%
of our Storage Solutions revenue, compared to 34% for direct sales to end users.
Indirect,   direct  and  service   revenues   represented   35%,  43%  and  22%,
respectively,  of our 2001 revenues.  The increased proportion of indirect sales
in 2002 reflects a strategy shift to provide a greater  technological  marketing
and  sales  support  to our  indirect  sales  function.  Service  revenues  were
insignificant in 2002 as result of our August 2001 sale of substantially all our
service  business  (see  Note  12 to  Consolidated  Financial  Statements  for a
discussion of Segment Information and Sales to Significant Customers).

Cost of Sales / Gross Margins

Gross margins realized by our Storage Solutions business in 2002 improved to 17%
compared to 11% reported for 2001.  During the second half of 2002,  we realized
gross margins of 36%, representing a significant improvement over the first half
of  2002  when  we  realized  0%  gross  margins.   This  improvement   reflects
significantly  lower material costs attributable to the commencement  during the
third  quarter of (i)  outsourcing  the  manufacturing  of our products and (ii)
shipments of our new 4000 Series  storage  systems.  Positive gross margins were
not achieved  during the first half of 2002  primarily  due to (i)  economies of
scale  attributable  to the level of fixed  costs  inherent  in our  operations,
coupled  with  significantly  lower  revenues,  and (ii)  the  price we paid for
certain  materials in connection  with our 3000 Series storage  systems prior to
the  commencement  of our  manufacturing  outsource  agreement  for our new 4000
Series.  As  a  result  of  outsourcing  our  production,   we  phased  out  our
manufacturing  facility  in San Diego,  California  during the third  quarter of
2002.  A  contributing  factor  to the low gross  margins  for 2001 was a fourth
quarter $2.5 million increase in inventory reserves due to obsolete inventory.

Our Telecommunication  Solutions business experienced a 53% gross margin for the
seven months ended  December 31, 2002.  Combined  gross  margins for our Storage
Solutions and Telecommunication  Solutions for 2002 amounted to 27% (see Note 12
to Consolidated Financial Statements for a discussion of Segment Information and
Significant Customers).

We expect an overall  improvement  in our gross  margins in 2003  primarily as a
result of a full year of gross  margins  attributable  to our  Telecommunication
Solutions   business,   in  addition  to  anticipated   improved  gross  margins
attributable to our 4000 Series Storage Solutions.

Our gross margins are dependent,  in part, on product mix, which fluctuates from
time to time. Our material costs are subject to fluctuations  experienced during
business  cycles  that create  shortages  and excess  supplies of some  critical
components, thereby creating increases and decreases in costs.

Selling, General and Administrative Expenses (SG&A)

SG&A  decreased  to $5.3  million in 2002 from $10.4  million in 2001.  The $5.1
million  decrease  principally  resulted  from the reduction of our overall work
force and related costs including occupancy  expenses,  partially offset by $1.2
million in SG&A incurred by our Telecommunication  Solutions business. We expect
SG&A to increase in 2003 as we incur a full twelve  months of SG&A  attributable
to our Telecommunication Solutions business.


<PAGE> 25


Research and Development (R&D)

Total R&D expenses  decreased to $3.1 million in 2002 from $3.6 million in 2001.
We  incurred  $314,000 in R&D  expenses  attributable  to our  Telecommunication
Solutions business  following our acquisition,  which was more than offset by an
$800,000  decrease in R&D associated with our Storage Solutions  business.  This
decrease  was  primarily  the  result of an  overall  decrease  in R&D  expenses
following the development of our 4000 Series of storage systems. We believe that
considerable future investments in R&D will be required to remain competitive in
both our businesses.

R&D costs associated with MONIESWeb(R) software production in 2002 were expensed
as  incurred  until  technological  feasibility  was  established.   Thereafter,
MONIESWeb(R)  software  production costs were capitalized  until the product was
available for general release to customers in early 2003.  Capitalized  software
costs  will be  amortized  beginning  in 2003  based on the  greater  of (i) the
estimated  economic  life on the  straight-line  method,  or (ii) the ratio that
current  revenues  attributable to MONIESWeb(R)  revenues bears to total current
and estimated future revenues for MONIESWeb(R). Other R&D costs were expensed as
incurred.  R&D costs may fluctuate considerably from time to time depending on a
variety of factors. These costs are incurred substantially in advance of related
revenues,  and in certain situations,  may not result in generating revenues. As
of December 31, 2002,  we  capitalized  $300,000 in software  development  costs
associated with the development of MONIESWeb(R).

Depreciation and Amortization

Depreciation  and  amortization  decreased  to $1.5  million  in 2002  from $1.6
million in 2001.  The  $151,000  decrease  reflects the adoption of Statement of
Financial  Accounting  Standards  No. 142 (SFAS 142),  Goodwill  and  Intangible
Assets, which resulted in the discontinuation of amortization of goodwill with a
carrying value of approximately $2 million effective January 1, 2002,  partially
offset by $214,000 in  amortization of other  intangible  assets of $2.8 million
resulting from the Stonehouse  acquisition (see Note 2 to Consolidated Financial
Statements). Amortization of goodwill for 2001 amounted to $408,000.

Realized and Unrealized Losses on Marketable Securities, Net

For 2002 and 2001,  we  recorded  net losses on  marketable  securities  of $1.1
million and $800,000,  respectively.  See Note 6 to the  Consolidated  Financial
Statements for a detailed discussion.

Other Income, Net

Other income, net amounted to $1.3 million in both 2002 and 2001. See Note 11 to
Consolidated Financial Statements for a detailed break down of the components of
Other Income, Net.

Fair Value of Option Granted to Customer

During  2002,  we recorded a $600,000  non-cash  charge for the fair value of an
option granted to a customer.  See Note 9 to Consolidated  Financial  Statements
for a detailed discussion.

Interest Expense

Interest  expense  amounted to $629,000 in 2002 as compared to $912,000 in 2001.
The decrease is primarily attributable to significantly lower average borrowings
and lower interest rates.


<PAGE> 26


Income Taxes

We have  recorded a 100%  valuation-allowance  for  deferred  income tax assets,
which,  more likely than not,  will not be realized,  based on recent  operating
results.

Comparison of Years Ended December 31, 2001 and 2000

For the year ended  December 31, 2001,  we reported a net loss of $14 million as
compared to a net loss of $21.9  million for the year ended  December  31, 2000.
Results of operations  for 2000 include a net gain of $5.6 million from the sale
of  assets  of a  subsidiary  and a charge  of $12  million  for  impairment  of
unamortized goodwill.

Sales

Sales for 2001 were  $17.9  million as  compared  to $40.2  million  in 2000,  a
decrease of $20.3 million. The significant decrease reflects the transition from
our older technology legacy products to our technology  products centered around
our  NexStor  2U storage  enclosures  and RAID  systems as well as the  economic
downturn  causing  customer  delays in acquiring  technology  and other  capital
equipment.

During  2001,  we began to expand our  indirect  channel  business and shift our
sales and marketing  strategy to provide greater  technical  marketing and sales
support to our indirect sales function.  As part of that strategy,  beginning in
January 2001, we  significantly  reduced our direct sales  personnel and related
costs,  and  refocused  our direct sales force to targeted  markets and existing
customers.

During 2001, direct, indirect and service revenues represented 43%, 35% and 22%,
respectively, of our sales revenues, compared to 75%, 14% and 11%, respectively,
in 2000. In August 2001, we sold substantially all of our service business.  The
higher  service  revenues  in 2001 relate to the  recognition  as revenue of the
remaining  unamortized  deferred  revenues  following  the  sale of our  service
business.

Cost of Sales / Gross Margins

Gross margins  decreased from 25% in 2000 to 11% in 2001.  Gross margins in both
periods were adversely  affected by (i) the level of fixed costs inherent in our
operations as compared with significantly  lower than expected sales levels, and
(ii) increases in inventory  reserves due to obsolete  inventory of $2.5 million
and  $1.6  million  in 2001  and  2000,  respectively.  Our  gross  margins  are
dependent,  in part, on product mix,  which  fluctuates  from time to time.  Our
material costs are subject to  fluctuations  experienced  during business cycles
that create shortages and excess supplies of some critical  components,  thereby
creating increases and decreases in costs.

Selling, General and Administrative Expenses

SG&A  decreased to $10.4  million in 2001 from $16.2  million in 2000.  The $5.8
million  decrease is primarily  the result of our overall  work force  reduction
previously discussed under "Sales".

Research and Development

R&D expenses  amounted to $3.6  million in 2001,  as compared to $3.5 million in
2000.  Amounts in both years  reflect the costs  incurred to develop our NexStor
3000  and  4000  2U  product  lines.   R&D  costs  were  expensed  as  incurred,
substantially in advance of related revenues, and in certain situations, did not
result in generating revenues.


<PAGE> 27


Depreciation and Amortization / Impairment of Goodwill

Depreciation  and  amortization  decreased  to $1.6  million  in 2001  from $4.5
million in 2000. The decrease was due to reduced amortization resulting from the
fourth  quarter 2000  write-down of $12 million of goodwill which was determined
to have been impaired because of our projected  inability to generate sufficient
future  operating  income  from  the  assets  acquired  in a  1999  acquisition.
Amortization  of  goodwill  for the year ended  December  31,  2001  amounted to
$408,000.

Realized and Unrealized Losses on Marketable Securities, Net

During  2001,  we  recognized  $811,000 in net losses on  marketable  securities
composed of an $86,000 realized gain and an $897,000 unrealized loss. See Note 6
to Consolidated Financial Statements for a detailed discussion.

Other Income, Net

Other income,  net amounted to $1.3 million in 2001. See Note 11 to Consolidated
Financial Statements for a detailed breakdown of the components of Other Income,
Net. Other income was not significant in 2000.

Interest Expense

Interest  expense  decreased  $377,000  to $912,000 in 2001.  The  decrease  was
primarily  attributable to decreased lower average borrowings and lower interest
rates.

Income Taxes

We have  recorded a 100%  valuation-allowance  for  deferred  income tax assets,
which,  more likely than not,  will not be  realized  based on recent  operating
results.

Net Loss Available to Common Stock

        Preferred Stock Dividends

During 2001 and 2000,  with the exception of our Series K Preferred  Stock,  all
classes of our  convertible  preferred  stock  required  dividends at 8%-10% per
annum.  Preferred stock  dividends  increased by $875,000 to $1.6 million during
2001  principally  due to the  issuance  of $2  million  and  $11.9  million  of
preferred stock in December 2000 and April 2001, respectively,  partially offset
by the automatic  conversion of $3 million and $2 million of preferred  stock to
common stock in July 2000 and October 2001, respectively. In connection with the
Halco Investment (see Note 3 to Consolidated Financial Statements), which closed
in November 2001, all of our remaining  convertible  preferred stock and accrued
dividends thereon were converted to common stock.

        Induced Conversion of Convertible Preferred Stock

In November 2001, as a result of inducement shares issued in connection with the
conversion  of our  convertible  preferred  stock as a  condition  to the  Halco
Investment (see Note 3 to Consolidated Financial  Statements),  we recorded a $3
million  non-cash  charge  to  arrive at net loss  available  to  common  stock,
representing the fair value of the inducement shares issued.  The fair value was
based on $.23 per share,  the price paid by Halco for its purchase of 39 million
shares of our common stock.

Liquidity and Capital Resources

The accompanying  consolidated  financial statements have been prepared assuming
that we will continue as a going concern.  This  contemplates the realization of
assets and the satisfaction of liabilities in the normal course of business.  As
shown in the consolidated  financial  statements,  we have experienced  negative
cash flows from operating activities, decreased sales revenues and recurring net
losses of $8 million, $14 million and $21.9 million for the years ended December
31, 2002, 2001 and 2000,  respectively.  In addition,  we have negative  working
capital of $6.9 million as of December 31, 2002.  These  matters,  among others,
raise substantial doubt about our ability to continue as a going-concern.


<PAGE> 28


However,  since 2001 we have devoted  substantial efforts to: (i) streamline our
operations;  (ii) establish the foundation for generating positive cash flow and
operating  profits;  and (iii) obtain sufficient  financing to cover our working
capital needs.

These efforts include a significant  reduction in our direct sales personnel and
related costs as part of our strategy to provide  greater  technical,  marketing
and sales support to expand the our indirect  customer channel base.  Additional
personnel  reductions  have been  implemented to reflect our lower sales levels,
our recent  manufacturing  outsourcing  agreement described below and to provide
certain cost  efficiencies.  Further efforts to reduce our fixed operating costs
resulted in the relocation of our executive and business  headquarters to a more
economical facility in Carlsbad, California in December 2002.

In July  2002,  we entered  into a contract  with  Varian  for  outsourcing  the
production  of our  4000S  Series of  storage  enclosures.  Our 4000F  Series is
currently  being  assembled by an interim outside  contractor.  As a result,  we
phased out our San Diego,  California  manufacturing  facility  during the third
quarter  of 2002.  The  outsourcing  agreement  has  resulted  in a  significant
improvement in our operating margins by lowering manufacturing costs and overall
operating costs.

Since January 1, 2001, and through  February 28, 2003, we obtained $21.7 million
of equity and debt financing  from private  investors.  Of these amounts,  $12.1
million was  received in 2001 from Maurice  Halperin,  our Chairman of the Board
since August 2001 and a principal  shareholder,  or companies  controlled by Mr.
Halperin (collectively Mr. Halperin),  consisting of $6 million in cash and $6.1
million  in  marketable  securities  (see  Note  3  to  Consolidated   Financial
Statements).  Equity and debt  financing  obtained  from  January  2001  through
February  28, 2003 also  included  $6.9  million  from H. Irwin Levy,  our Chief
Executive Officer,  Vice-Chairman of the Board and a principal  shareholder,  or
companies  controlled  by Mr. Levy  (collectively,  Mr. Levy).  In addition,  in
connection with our  outsourcing  contract,  Mr. Levy provided  collateral for a
bank to issue a $1 million letter of credit (LC) for the benefit of Varian.  The
LC was  subsequently  reduced to $750,000.  We have agreed to indemnify Mr. Levy
for any amounts drawn upon the LC by Varian.

In August 2002,  we entered into an  Agreement  For Purchase of Accounts  with a
financial institution (Purchaser), providing for a $750,000 line of credit under
which we may sell customer invoices to the Purchaser. The Purchaser advances 80%
of the net face amount of qualified  invoices and remits the remaining 20%, less
its fees,  upon  collecting  the invoice in full.  We are obligated to repay the
Purchaser for invoices not paid within 90 days.

In an effort to increase our cash flow and  profitability,  among other reasons,
on  June  7,  2002,  we  acquired  100%  of the  outstanding  capital  stock  of
Stonehouse.  The  acquisition has had a positive impact on our gross margins and
has  contributed  to  our  cash  flow  (see  Note  2 of  Consolidated  Financial
Statements).

We are currently  exploring  alternatives for raising  additional debt or equity
capital to finance  our  short-term  and  long-term  plans as well as  operating
deficits expected to be incurred until we begin to generate  positive  operating
cash flows.  However,  due to  conditions  in the  technology-related  financial
markets and other uncertainties, many of which are beyond our control, there can
be no assurances that such required  additional funds will be available on terms
acceptable  to us, if at all, or that we will be able to generate  positive cash
flows from operating  activities in the future.  We currently have  insufficient
liquidity to fund our operating needs for the next twelve months.


<PAGE> 29


The consolidated  financial statements do not include any adjustments to reflect
the possible future effects on the  recoverability  and classification of assets
or the  amounts  and  classification  of  liabilities  that may result  from our
inability to continue as a going concern.

Cash Flow Results

        Operating Activities

Net cash used in operating activities amounted to $451,000 and $10.3 million for
2002 and 2001, respectively. The most significant use of cash for both years was
our loss from operations (before  depreciation,  amortization and other non-cash
items) of $3.3  million in 2002 and $8.1 million in 2001.  The most  significant
source of cash was the net reduction of accounts receivable and prepaid expenses
of $2.5 million in 2002 and $2.3 million in 2001. In addition, in 2002 and 2001,
cash was provided by the net reduction in  inventories of $524,000 and $653,000,
respectively.  During 2002 and 2001,  we used cash of $200,000 and $5.2 million,
respectively,  in the reduction of deferred revenue,  accounts payable and other
liabilities.

        Investing Activities

Net cash provided by investing activities for 2002 of $130,000 was the result of
$298,000 in cash acquired in the  Stonehouse  acquisition,  net of $168,000 cash
used for  purchases  of  property  and  equipment.  Net cash  used in  investing
activities amounted to $163,000 in 2001 for purchases of property and equipment.

        Financing Activities

Net cash used in financing  activities  for 2002 amounted to $243,000  resulting
from net  repayments  of our  revolving  credit  facility  of  approximately  $3
million,  substantially offset by proceeds from borrowings from Mr. Levy of $2.7
million.  Net cash provided by financing  activities  for 2001 amounted to $11.3
million,  principally  consisting of borrowings from private  investors of $11.2
million  (including $3.3 million from Mr. Levy and $5 million from Mr. Halperin)
of which $7.2 million was satisfied by issuing  convertible  preferred stock and
common  stock  (including  $2.8  million from Mr. Levy and $1.9 million from Mr.
Halperin).  An  additional  $1.2 million of cash was provided in 2001 by issuing
convertible  preferred stock to private investors (including $1 million from Mr.
Halperin),  substantially  offset  by net  repayments  of our  revolving  credit
facility of approximately $1.1 million.

American Stock Exchange (AMEX)

On May 28, 2002, we received  correspondence  from AMEX  regarding the potential
delisting  of our common  stock from AMEX due to our failure to meet  certain of
AMEX's continued listing standards,  related to minimum shareholders' equity and
our ability to continue  operations  and/or meet our obligations as they mature.
On June 26, 2002, we submitted a plan and supporting  documentation (the "Plan")
to AMEX to  demonstrate  our ability to regain  compliance.  On August 13, 2002,
AMEX  notified  us that it had  accepted  our Plan and  granted us an  extension
through  June 20,  2003  within  which we must  regain  compliance,  subject  to
periodic  review by AMEX's Staff.  Failure to make progress  consistent with the
Plan or to regain  compliance with the continued listing standards by the end of
the extension  period could result in our stock being delisted.  We believe that
we  will  be  successful  in  regaining  compliance,  although  there  can be no
assurance that we will remain listed on AMEX.


<PAGE> 30


Critical Accounting Policies and Estimates

Storage  Solutions  revenues are recognized as of the date shipments are made to
customers,  net of an allowance for returns.  Revenues  from  computer  software
sales are recognized when  persuasive  evidence of a sales  arrangement  exists,
delivery and  acceptance  of the software  has  occurred,  the price is fixed or
determinable,  and collectability is reasonably assured. Consulting revenues are
recognized  when  services  are  performed.  Revenues on  long-term  development
contracts are deferred at time of sale,  and using the  percentage-of-completion
method,  are  recognized  based upon hours incurred as a percentage of estimated
total hours.  Maintenance  revenues for customer support and product updates are
deferred at the time of sale and are included in income on a straight-line basis
over the term of the maintenance agreement, generally for one year.

R&D costs associated with our Telecommunication  Solutions business for software
production  are  expensed  as  incurred  until   technological   feasibility  is
established.  Thereafter,  software  production costs are capitalized  until the
product is available for general  release to customers.  Amortization  commences
only when the  product is  available  for  general  release  and is  recorded as
amortization  rather than R&D costs.  Capitalized  software  costs are amortized
over the greater of (i) the estimated economic life on the straight-line method,
or (ii) the ratio  that  current  revenues  for the  product  bears to the total
current and anticipated future revenues for the product.

Our  preliminary  allocation  of the  Stonehouse  purchase  price  included $6.5
million in goodwill and $2.8 million in other  intangible  assets in  accordance
with  Statement  of  Financial  Accounting  Standard  (SFAS) No.  141,  Business
Combinations.  These values were based on a valuation  analysis  completed by an
independent  valuation  firm.  In  addition,  we have  unamortized  goodwill  of
approximately  $2 million that arose from an acquisition in 2000.  Goodwill will
be tested for possible impairment at least on an annual basis in accordance with
SFAS No. 142,  Goodwill and Other Intangible  Assets (see Note 5 to Consolidated
Financial Statements).

The  preparation  of  financial   statements,   in  conformity  with  accounting
principles generally accepted in the United States,  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 these estimates.
Results for the interim  periods  presented  in this report are not  necessarily
indicative of results that may be reported for any other  interim  period or for
the entire fiscal year.

Effects of Inflation

During recent years, inflation has not had an impact on our operations and we do
not expect that it will have a material impact in 2003.


Item 7a.  Quantitative and Qualitative Disclosures About Market Risk

Our  exposure  to market  risk for  changes  in  interest  rates  relates to our
Stonehouse  variable  rate bank line of credit  under  which we may borrow up to
$500,000.


<PAGE> 31


Item 8.  Financial Statements and Supplementary Data

Table of Contents to Consolidated Financial Statements

                                                                  Page

    Report of Independent Certified Public Accountants             32

    Report of Independent Certified Public Accountants             33

    Consolidated Financial Statements:

     Balance Sheets - December 31, 2002 and 2001                   34

     Statements of Operations - Years Ended
        December 31, 2002, 2001 and 2000                           35

     Statements of Shareholders' Equity
        Years Ended December 31, 2002, 2001 and 2000            36-37

     Statements of Cash Flows - Years Ended
        December 31, 2002, 2001 and 2000                        38-39

     Notes to Consolidated Financial Statements                 40-67

     Report of Independent Certified Public Accountants            68

     Report of Independent Certified Public Accountants            69



FINANCIAL  STATEMENT  SCHEDULES.  The following financial statement schedules of
nStor  Technologies,  Inc. for the years ended December 31, 2002,  2001 and 2000
are filed as part of this Report on the page number so  indicated  and should be
read  in  conjunction  with  the  Consolidated  Financial  Statements  of  nStor
Technologies, Inc.:

    Schedule I - Condensed Financial Information of Registrant  70-72

    Schedule II - Valuation and Qualifying Accounts                73


Schedules  not listed above are omitted  because they are not  applicable or are
not required or the information  required to be set forth therein is included in
the Consolidated Financial Statements or Notes thereto.


<PAGE> 32


               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS




To the Board of Directors of
   nStor Technologies, Inc.


We  have  audited  the  accompanying   consolidated   balance  sheets  of  nStor
Technologies,  Inc. and subsidiaries (the "Company") as of December 31, 2002 and
2001,  and the related  consolidated  statements  of  operations,  shareholders'
equity and cash flows for the years then  ended.  These  consolidated  financial
statements   are  the   responsibility   of  the   Company's   management.   Our
responsibility  is  to  express  an  opinion  on  these  consolidated  financial
statements based on our audit.

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

In our opinion, the consolidated  financial statements referred to above present
fairly, in all material respects,  the financial position of nStor Technologies,
Inc. and subsidiaries as of December 31, 2002 and 2001, and the results of their
operations  and their cash flows for the years  then  ended in  conformity  with
accounting principles generally accepted in the United States of America.

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

The  consolidated   financial   statements  of  nStor  Technologies,   Inc.  and
subsidiaries as of December 31, 2000 were audited by other auditors whose report
dated February 9, 2001 on those  statements  included an  explanatory  paragraph
describing  conditions that raise  substantial doubt about the Company's ability
to continue as a going concern.



                                                 /S/ Swenson Advisors, LLP
                                                     Swenson Advisors, LLP


San Diego, California
March 14, 2003


<PAGE> 33


               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS




To the Board of Directors of
   nStor Technologies, Inc.


We  have  audited  the  accompanying   consolidated  statements  of  operations,
shareholders'  (deficit) equity and cash flows of nStor  Technologies,  Inc. and
subsidiaries  (the  "Company")  for the year  ended  December  31,  2000.  These
consolidated  financial  statements  are  the  responsibility  of the  Company's
management.  Our  responsibility is to express an opinion on these  consolidated
financial statements based on our audit.

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

In our opinion, the consolidated  financial statements referred to above present
fairly, in all material respects, the results of their operations and their cash
flows of nStor  Technologies,  Inc. and subsidiaries for the year ended December
31, 2000 in conformity  with  accounting  principles  generally  accepted in the
United States of America.

The accompanying  consolidated  financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated   financial  statements,   the  Company  has  suffered  substantial
recurring  losses  from  operations,   has  a  working  capital  deficiency,   a
shareholders'  deficit and is in default  under its  existing  credit  facility.
These matters, among others, raise substantial doubt about the Company's ability
to continue as a going  concern.  Management's  plans in regard to these matters
are also described in Note 1. The accompanying consolidated financial statements
do not  include  any  adjustments  that might  result  from the  outcome of this
uncertainty.


                                                          /S/ BDO SEIDMAN, LLP
                                                          BDO SEIDMAN, LLP


Costa Mesa, California
February 9, 2001


<PAGE> 34


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
=========================================
(dollars in thousands)
                                                                 December 31,
                                                              -----------------
     ASSETS                                                     2002      2001
     ------                                                   -------   -------
Current assets:
  Cash and cash equivalents                                   $   293   $   857
  Marketable securities                                             -     4,255
  Accounts receivable, net                                        934     1,925
  Inventories                                                   1,079     1,364
  Prepaid expenses and other                                      224       211
                                                             --------   -------
        Total current assets                                    2,530     8,612

Property and equipment, net of $88 and $5,641 in
  accumulated depreciation                                        303     1,367
Goodwill and other intangible assets, net of $1,021
  and $807 in accumulated amortization                         11,349     1,989
                                                             --------   -------
                                                             $ 14,182   $11,968
     LIABILITIES                                             ========   =======
     -----------
Current liabilities:
  Bank line of credit                                         $   200   $ 2,991
  Other borrowings                                              4,684     1,100
  Accounts payable and other                                    3,177     3,790
  Deferred revenue                                              1,401         -
                                                              -------   -------
        Total current liabilities                               9,462     7,881

Long-term debt                                                  3,100     3,600
                                                              -------   -------
        Total liabilities                                      12,562    11,481
                                                              -------   -------
Commitments, contingencies and subsequent events

     SHAREHOLDERS' EQUITY
     ---------------------
Preferred stock, $.01 par; 1,000,000 shares authorized;
  0 shares assumed issued and outstanding at December 31,
  2002 and 2001                                                    -          -
Common stock, $.05 par; 230,000,000 shares authorized;
  142,076,947 and 114,603,144 shares assumed issued and
  outstanding at December 31, 2002 and 2001, respectively       7,103     5,729
Additional paid-in capital                                    101,847    94,104
Deficit                                                      (107,330)  (99,346)
                                                              -------   -------
         Total shareholders' equity                             1,620       487
                                                              -------   -------
                                                              $14,182   $11,968
                                                              =======   =======


        See Report of Certified Public Accountants and accompanying notes
                      to consolidated financial statements


<PAGE> 35


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
=========================================
(dollars in thousands, except per share data)

                                                  Years Ended December 31,
                                              ------------------------------
                                                 2002        2001      2000
                                              ---------  ---------  --------
Sales                                          $10,790    $17,886    $40,197
Cost of sales                                    7,892     15,837     30,325
                                               --------   --------  --------
     Gross  margin                               2,898      2,049      9,872
                                               --------   --------  --------
Operating expenses:
  Selling, general and administrative            5,251     10,354     16,232
  Research and development                       3,085      3,579      3,504
  Depreciation and amortization                  1,471      1,622      4,468
  Impairment of goodwill                             -          -     11,959
                                               --------   --------  --------
Total operating expenses                         9,807     15,555     36,163
                                               --------   --------  --------
Loss from operations                            (6,909)   (13,506)   (26,291)

Gain on sale of assets of subsidiary                 -          -      5,575
Realized and unrealized losses on
  marketable securities, net                    (1,123)      (811)         -
Other income, net                                1,277      1,271         84
Fair value of option granted to customer          (600)         -          -
Interest expense, net                             (629)      (912)    (1,289)
                                               --------   --------  --------
Net loss before preferred stock dividends
  and induced conversion                        (7,984)   (13,958)   (21,921)

Preferred stock dividends                            -     (1,560)      (685)
Induced conversion of convertible
  preferred stock                                    -     (3,000)         -
                                               --------  ---------  --------
Net loss available to common stock             ($7,984)  ($18,518)  ($22,606)
                                               ========  =========  ========
Basic and diluted net loss per
 common share                                  ($  .06)   ($  .41)   ($  .69)
                                               ========  =========  ========
Weighted average number of common
  shares considered outstanding,
  basic and diluted                         128,899,148 44,832,503 32,789,832
                                            =========== ========== ==========


        See Report of Certified Public Accountants and accompanying notes
                      to consolidated financial statements


<PAGE> 36


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
===============================================
(dollars in thousands)

<TABLE>
<CAPTION>

                                                                Preferred         Addi-
                                      Common Stock                Stock           tional
                                 ----------------------     -----------------     Paid-in
                                    Shares       Amount     Shares     Amount     Capital        Deficit       Total
                                 -----------     ------     ------     ------     --------     ----------     -------
<S>                               <C>            <C>        <C>        <C>        <C>          <C>            <C>
Balances, January 1, 2000         26,517,824     $1,331     14,921     $    -     $ 63,164     $ (58,222)     $ 6,273

Issuance of common stock
 in connection with:
  Conversion of convertible
   preferred stock                 6,477,467        324     (8,699)         -         (324)                         -
  Acquisition of assets              776,119         39                              2,561                      2,600
  Exercise of options and
   warrants                          635,589         32                              1,146                      1,178
  Equity line of credit,
   net of issuance costs of $87      508,857         25                                936                        961
  Satisfaction of borrowings         439,154         22                              1,228                      1,250
  Executive termination              123,479          -                                  -                          -

Issuance of preferred stock
 in satisfaction of borrowings
 from director                                               2,000          -        2,000                      2,000

Compensation expense resulting
 from modifications to stock
 options and warrants in
 connection with the sale of
 the assets of subsidiary                                                              818                        818

Preferred stock dividends                                                                           (685)        (685)

Net loss for the year
 ended December 31, 2000                                                                         (21,921)     (21,921)
                                 -----------     ------     ------     ------     --------     ----------     -------
Balances, December 31, 2000       35,478,489      1,773      8,222          -       71,529       (80,828)      (7,526)

Issuance of convertible
 preferred stock in
 connection with:
  Satisfaction of borrowings,
   net of issuance costs of $15                             11,942          -       11,927                     11,927
  Private placement                                            250          -          250                        250
  Halco Investment, net of
   issuance costs of $28                                     8,970          -        8,941                      8,941

Issuance of common stock in
 connection with:
  Conversion of Series D & F
   convertible preferred stock     2,240,533        112     (2,722)         -         (112)                         -
  Halco Investment (issued
   January 11, 2002 upon
   shareholder approval-Note 3)
   including conversion of
   Series H, I, & K convertible
   preferred stock                76,884,122      3,844    (26,662)         -       (2,075)                     1,769

Common stock option and warrants
 issued in connection with:
  Borrowings                                                                           554                        554
  Other                                                                                 90                         90

Preferred stock dividends                                                                         (1,560)      (1,560)

</TABLE>


<PAGE> 37


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
===============================================
(dollars in thousands) (concluded)

<TABLE>
<CAPTION>

                                                                Preferred         Addi-
                                      Common Stock                Stock           tional
                                 ----------------------     -----------------     Paid-in
                                    Shares       Amount     Shares     Amount     Capital        Deficit       Total
                                 -----------     ------     ------     ------     --------     ----------     -------
<S>                              <C>             <C>        <C>        <C>        <C>          <C>            <C>
Induced conversion of
 convertible preferred
 stock                                                                               3,000        (3,000)           -

Net loss for the year ended
 December 31, 2001                                                                               (13,958)     (13,958)
                                 -----------     ------     ------     ------     --------     ----------     -------
Balances, December 31, 2001      114,603,144      5,729          -          -       94,104       (99,346)         487

Issuance of common stock
 in connection with:
  Acquisition of 100% of
   common stock of Stonehouse
   Technologies, Inc.
   ("Stonehouse")                 22,500,000      1,125                              5,850                      6,975
  Payment of accrued
   dividends on Series D
   convertible preferred
   stock                             446,776         23                                116                        139

Issuance of Series L convertible
  preferred stock in connection
  with Stonehouse acquisition                                1,000          -        1,403                      1,403

Conversion of Series L convertible
  preferred stock upon
  shareholder approval             4,527,027        226     (1,000)         -         (226)                         -

Fair value of option granted
  to customer                                                                          600                        600

Net loss for the year ended
  December 31, 2002                                                                               (7,984)      (7,984)
                                 -----------     ------     ------     ------     --------     ----------     -------
Balances, December 31, 2002      142,076,947     $7,103          -     $    -     $101,847     $(107,330)      $1,620
                                 ===========     ======     ======     ======     ========     ==========     =======

</TABLE>


        See Report of Certified Public Accountants and accompanying notes
                      to consolidated financial statements


<PAGE> 38


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
=====================================
(in thousands)

<TABLE>
<CAPTION>
                                                             Years Ended December 31,
                                                         --------------------------------
                                                           2002        2001       2000
CASH FLOWS FROM OPERATING ACTIVITIES:                    --------    --------    --------
<S>                                                      <C>        <C>         <C>
  Net loss                                               ($7,984)    ($13,958)   ($21,921)
  Adjustments to reconcile net loss to
    net cash used in operating activities:
      Proceeds from sales of marketable securities         3,132        1,047           -
      Depreciation and amortization                        1,471        1,622       4,468
      Other income, net                                   (1,277)      (1,496)          -
      Realized and unrealized losses on marketable
        securities, net                                    1,123          811           -
      Capitalized research and development                  (300)           -           -
      Fair value of option granted to customer               600            -           -
      Provision for inventory obsolescence                  (239)       2,500       3,988
      Provision for uncollectible accounts receivable        211        1,069         912
      Gain on sale of assets of subsidiary                     -            -      (5,575)
      Amortization of deferred loan costs and other            -          280          21
      Impairment of goodwill                                   -            -      11,959
      Changes in assets and liabilities, net of
        effects from acquisitions:
          Decrease in accounts receivable                  2,398        1,201       2,108
          Decrease (increase) in inventories                 524          653      (2,875)
          Decrease in prepaid expenses and other              91        1,090         293
          Decrease in deferred revenue, accounts
           payable and other liabilities                    (201)      (5,152)     (2,807)
                                                         --------    --------    --------
Net cash used in operating activities                       (451)     (10,333)     (9,429)
                                                         --------    --------    --------
CASH FLOWS FROM INVESTING ACTIVITIES:
  Net proceeds from sale of assets of subsidiary               -            -       7,013
  Net cash acquired (paid) in acquisitions                   298            -        (293)
  Additions to property and equipment, net                  (168)        (163)       (853)
                                                         --------    --------    --------
Net cash provided by (used in) investing activities          130         (163)      5,867
                                                         --------    --------    --------
CASH FLOWS FROM FINANCING ACTIVITIES:
  Net repayments of revolving bank credit facilities      (2,991)      (1,095)     (1,025)
  Additions to other borrowings                            2,748       11,249       4,858
  Repayments on other borrowings                               -            -      (2,285)
  Issuance of convertible preferred stock                      -        1,221           -
  Issuance of common stock, net of issuance costs              -            -         961
  Proceeds from exercise of stock options and warrants         -            -       1,178
  Cash paid for preferred stock dividends                      -          (59)       (761)
                                                         --------    --------    --------
Net cash (used in) provided by financing activities         (243)      11,316       2,926
                                                         --------    --------    --------
Net (decrease) increase in cash and cash
  equivalents during the year                               (564)         820        (636)

Cash and cash equivalents at beginning of year               857           37         673
                                                         --------    --------    --------
Cash and cash equivalents at end of year                 $   293     $    857    $     37
                                                         ========    ========    ========

</TABLE>


<PAGE> 39


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
=====================================
(in thousands) (concluded)

<TABLE>
<CAPTION>
                                                               Years Ended December 31,
                                                         --------------------------------
                                                           2002        2001         2000
                                                         --------    --------    --------
<S>                                                      <C>         <C>        <C>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
  Cash paid during period for interest                   $   283     $    504    $  1,297
                                                         ========    ========    ========
NON-CASH INVESTING ACTIVITIES:
  Acquisitions:
    Fair value of assets acquired                        $11,081     $      -    $  2,938
    Liabilities assumed and incurred                      (3,001)           -         (45)
    Common stock and convertible preferred
     stock issued to sellers                              (8,378)           -      (2,600)
                                                         --------    --------    --------
    Cash (acquired) paid                                 $(  298)    $      -    $    293
                                                         ========    ========    ========
  Convertible preferred stock issued to Halco
   in exchange for marketable securities                 $     -     $  6,113    $      -
                                                         ========    ========    ========
  Modifications to stock options and warrants
   in connection with the sale of assets of a
   subsidiary                                            $     -     $      -    $    818
                                                         ========    ========    ========

NON-CASH FINANCING ACTIVITIES:

  Issuance of common and convertible preferred
   stock in satisfaction of borrowings, accrued
   dividends and accrued interest                        $   139     $ 15,568    $  3,250
                                                         ========    ========    ========
  Deferred loan costs arising from issuance
   of warrants under borrowings                          $     -     $    554    $      -
                                                         ========    ========    ========

</TABLE>


        See Report of Certified Public Accountants and accompanying notes
                      to consolidated financial statements


<PAGE> 40


nSTOR TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
==========================================

(1)  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

        Principles of Consolidation

The   consolidated   financial   statements   include  the   accounts  of  nStor
Technologies,  Inc. ("nStor") and all wholly-owned  subsidiaries  (collectively,
the "Company").  Significant  intercompany  balances and transactions  have been
eliminated in consolidation.

        Liquidity and Going Concern

The accompanying  consolidated  financial statements have been prepared assuming
that the  Company  will  continue  as a going  concern.  This  contemplates  the
realization of assets and the  satisfaction  of liabilities in the normal course
of business. As shown in the consolidated financial statements,  the Company has
experienced  negative cash flows from operating  activities,  decreases in sales
revenues and  substantial  recurring  net losses of $8 million,  $14 million and
$21.9  million,   for  the  years  ended  December  31,  2002,  2001  and  2000,
respectively. The sales declines have reflected the global reduction in business
demand for technology  products.  In addition,  the Company has negative working
capital of $6.9 million as of December 31, 2002.  These  matters,  among others,
raise  substantial  doubt  about the  Company's  ability to  continue as a going
concern.

However,  since  2001 the  Company  has  devoted  substantial  efforts  to:  (i)
streamline its operations; (ii) establish the foundation for generating positive
cash flow and operating profits;  and (iii) obtain sufficient financing to cover
its working capital needs.

These  efforts  include a significant  reduction in the  Company's  direct sales
personnel  and  related  costs  as  part  of its  strategy  to  provide  greater
technical, marketing and sales support to expand the Company's indirect customer
channel base  (original  equipment  manufacturers  (OEMs),  resellers and system
integrators  (SIs)).  Additional  personnel  reductions have been implemented to
reflect the Company's  lower sales levels,  the Company's  recent  manufacturing
outsourcing  described below and to provide certain cost  efficiencies.  Further
efforts to reduce the Company's fixed operating costs resulted in the relocation
of the  Company's  executive  and  business  headquarters  to a more  economical
facility in Carlsbad, California in December 2002.

In July 2002, the Company entered into a contract with Varian,  Inc.  ("Varian")
for  outsourcing  the  production  of the  Company's  4000S  Series  of  storage
enclosures.  The  Company's  4000F  Series is  currently  being  assembled by an
interim outside  contractor.  As a result, the Company phased out its San Diego,
California  manufacturing  facility  during  the  third  quarter  of  2002.  The
outsourcing  arrangement  has  resulted  in a  significant  improvement  in  the
Company's  operating  margins  by  lowering   manufacturing  costs  and  overall
operating costs.

Since January 1, 2001, and through February 28, 2003, the Company obtained $21.7
million of equity and debt financing from private  investors.  Of these amounts,
$12.1 million was received in 2001 from Maurice Halperin, the Company's Chairman
of the  Board  since  August  2001 and a  principal  shareholder,  or  companies
controlled  by Mr.  Halperin  (collectively  "Mr.  Halperin"),  consisting of $6
million  in cash  and $6.1  million  in  marketable  securities  (see  Note 3 to
Consolidated  Financial  Statements).  Equity and debt  financing  obtained from
January 2001 through  February 28, 2003 also included $6.9 million from H. Irwin
Levy, the Company's Chief Executive  Officer,  Vice-Chairman  of the Board and a
principal shareholder,  or companies controlled by Mr. Levy (collectively,  "Mr.
Levy"). In addition, in connection with the Company's outsourcing contract,  Mr.
Levy  provided  collateral  for a bank to issue a $1  million  letter  of credit
("LC") for the benefit of Varian.  The LC was subsequently  reduced to $750,000.
In August 2002,  the Company  entered into an Agreement For Purchase of Accounts
with a financial  institution,  providing  for a $750,000  line of credit  under
which the Company may sell customer  invoices to the financial  institution (see
Note 8 to Consolidated Financial Statements).


<PAGE> 41


In an effort to increase the Company's cash flow and profitability,  among other
reasons,  on June 7, 2002, the Company acquired 100% of the outstanding  capital
stock of Stonehouse Technologies, Inc. ("Stonehouse"). The acquisition has had a
positive  impact on our gross margins and cash flow (see Note 2 to  Consolidated
Financial Statements).

The Company is currently  exploring  alternatives for raising additional debt or
equity  capital  to  finance  its  short-term  and  long-term  plans  as well as
operating  deficits expected to be incurred until it begins to generate positive
operating  cash flows.  However,  due to  conditions  in the  technology-related
financial  markets  and  other  uncertainties,  many of which  are  outside  the
Company's control, there can be no assurance that such required additional funds
will be  available on terms  acceptable  to  management,  if at all, or that the
Company  will be able to generate  positive  cash flows from  operations  in the
future.  The Company has insufficient  liquidity to fund its operating needs for
the next twelve months.

The consolidated  financial statements do not include any adjustments to reflect
the possible future effects on the  recoverability  and classification of assets
or the  amounts  and  classification  of  liabilities  that may result  from the
inability of the Company to continue as a going concern.

        Business

The  Company,  through  its  wholly-owned  subsidiary  nStor  Corporation,  is a
designer,  developer  and  manufacturer  of  external  data  storage  solutions,
including high-density storage enclosures,  storage management software and RAID
(Redundant  Array  of  Independent   Disks)  controller   technology   ("Storage
Solutions"). The Company's product line supports a variety of operating systems,
including Windows NT and Windows 2000, UNIX, Linux, and Macintosh.  Designed for
storage  intensive  environments  or other  mission-critical  applications,  the
Company's products are offered in Fibre Channel,  Fibre-to-SCSI  (Small Computer
Systems Interface), and SCSI architectures.

In June  2002,  the  Company  acquired  Stonehouse  (see Note 2 to  Consolidated
Financial Statements).  Stonehouse is a provider of telecommunications  software
and  services   solutions   ("Telecommunication   Solutions")  that  help  large
enterprises manage their communications  expenses,  assets and processes.  These
solutions include a suite of modular applications and consulting services, which
allow  enterprises  to manage voice,  data and wireless  services by providing a
systematic  approach to automate  order  processing,  monitor  expenses,  manage
vendor invoices, track asset inventory and allocate costs.

        Cash and Cash Equivalents

Cash and cash equivalents  consist of highly liquid investment  instruments with
original maturities, when purchased, of three months or less.

        Marketable Securities

In  accordance  with  Statement  of  Financial   Accounting  Standard  No.  115,
Accounting  for Certain  Investments in Debt and Equity  Securities,  marketable
securities  held by the Company at December 31, 2001 were  classified as trading
securities  and  reported  at  fair  value  with  unrealized  gains  and  losses
recognized in earnings.


<PAGE> 42


        Inventories

Inventories,  consisting of raw materials,  work-in-process  and finished goods,
are stated at the lower of cost or market,  with cost being  determined based on
the first-in,  first-out  (FIFO)  method.  Reserves are recorded as necessary to
reduce  obsolete  inventory to  estimated  net  realizable  value (see Note 4 to
Consolidated Financial Statements).

        Revenue Recognition

               Storage Solutions

Revenue from the sale of products is  recognized  as of the date  shipments  are
made to customers,  net of an allowance for returns.  Prior to August 2001,  the
Company  contracted with outside vendors to provide services relating to various
on-site  warranties  which were offered for sale to customers.  On-site warranty
revenues  and  amounts  paid in advance to outside  service  organizations  were
recognized  in the  financial  statements  in  sales  and  cost of  goods  sold,
respectively,  over the life of the  service  contracts.  In  August  2001,  the
Company  sold  substantially  all  of  its  servicing  business.  The  remaining
unamortized deferred revenue was recognized as revenue following the sale.

               Telecommunication Solutions

In accordance  with  provisions of the AICPA  Statement of Position  (SOP) 97-2,
Software  Revenue  Recognition,   revenues  from  computer  software  sales  are
recognized when persuasive evidence of a sales arrangement exists,  delivery and
acceptance of the software has occurred, the price is fixed or determinable, and
collectability is reasonably  assured.  Consulting  revenues are recognized when
services are performed. Revenues on long-term development contracts are deferred
at time of sale and using the  percentage-of-completion  method  are  recognized
based upon hours incurred as a percentage of estimated total hours.  Maintenance
revenues  for customer  support and product  updates are deferred at the time of
sale and are  included in income on a  straight-line  basis over the term of the
maintenance agreement, generally for one year.

        Long-Lived Assets

In accordance with the provisions of Statement of Financial  Accounting Standard
No.  144,  Accounting  for the  Impairment  or Disposal  of  Long-Lived  Assets,
long-lived  assets  and  certain  identifiable   intangibles  are  reviewed  for
impairment  whenever  events  or  changes  in  circumstances  indicate  that the
carrying amount of an asset may not be recoverable.  Recoverability of assets to
be held and used is measured by comparison of the carrying amount of an asset to
future net cash flows expected to be generated by the asset.  If such assets are
considered  impaired,  the impairment to be recognized is measured by the amount
by which the carrying amount of the assets exceeds the fair value of the assets.
Assets to be disposed of are  reported  at the lower of the  carrying  amount or
fair value less costs to sell.

        Property and Equipment

Property and equipment are stated at cost.  Depreciation  is provided  under the
straight-line  method over the estimated  useful lives,  principally five years.
Leasehold  improvements are amortized on a straight-line  basis over the shorter
of the useful life of the asset or the lease term.

        Goodwill

Goodwill  represents  the excess cost of the acquired  businesses  over the fair
value  of net  assets  acquired  (see  Notes 2 and 5 to  Consolidated  Financial
Statements)  and is  carried  at  cost.  As a  result  of the  Company  adopting
Statement of Financial  Accounting Standard ("SFAS") No. 142, Goodwill and Other
Intangible Assets, the Company  discontinued  amortization of goodwill effective
January 1, 2002.  Prior to the  Company's  adoption of SFAS No. 142, the Company
amortized goodwill under the straight-line  method over seven years. At December
31, 2002,  unamortized  goodwill amounted to $9.3 million, of which $6.5 million
is attributable to the Company's June 2002 acquisition of Stonehouse (see Note 2
to Consolidated Financial Statements).


<PAGE> 43


Management  periodically  reviews  goodwill to  determine if an  impairment  has
occurred.  Among  various  considerations,   this  process  includes  evaluating
recoverability  based  upon cash flow  forecasts.  As a result of the  Company's
projected  inability to generate  sufficient  future  operating  income from the
assets acquired in an acquisition,  during 2000 the Company recorded charges for
impairment  of goodwill of $12 million  eliminating  all  remaining  unamortized
goodwill related to the 1999 acquisition of Andataco, Inc. (Andataco).

        Research and Development Costs ("R&D")

               Storage Solutions

R&D costs  associated  with our  Storage  Solutions  business  are  expensed  as
incurred.

               Telecommunication Solutions

In  accordance  with  Statement  of  Financial   Accounting   Standard  No.  86,
"Accounting for the Costs of Computer  Software to be Sold,  Leased or Otherwise
Marketed",  R&D costs  associated  with the  creation of a software  product are
expensed as incurred until technological feasibility is established. Thereafter,
software  production  costs are  capitalized  until the product is available for
general release to customers.  Capitalized software costs are amortized over the
greater of (a) the straight-line  method over the remaining  estimated  economic
life of the product or (b) the ratio that current gross revenues for the product
bear to the total of current and  anticipated  future  gross  revenues  for that
product.  Amortization  begins when the product is available for general release
to customers. Other R&D costs are expensed as incurred.

        Income Taxes

Income taxes are provided on the liability  method  whereby  deferred tax assets
and  liabilities  are recognized for the expected tax  consequences of temporary
differences   between  the  tax  bases  and  reported   amounts  of  assets  and
liabilities.  Deferred tax assets and liabilities are computed using enacted tax
rates  expected  to apply to  taxable  income  in the  years in which  temporary
differences are expected to be recovered or settled.  The effect on deferred tax
assets and liabilities from a change in tax rates is recognized in income in the
period that includes the enactment date.

The Company provides a valuation  allowance for certain deferred tax assets,  if
it is more likely than not that the Company will not realize tax assets  through
future operations.

        Net Loss Per Common Share ("EPS")

Basic EPS is  calculated  by dividing the net loss  available to common stock by
the weighted  average  number of common shares  considered  outstanding  for the
period, without consideration for common stock equivalents. Diluted EPS includes
the effect of potentially  dilutive securities.  For all periods presented,  the
effect  of  including   dilutive   securities  would  have  been   antidilutive.
Accordingly, basic and diluted EPS for all periods presented are the same.


<PAGE> 44


As of December 31, 2002 and 2001,  outstanding common stock equivalents included
the following,  respectively:  7,414,333 and 2,871,294  shares  underlying stock
options;  1,982,500 and 3,304,299  shares  underlying  warrants;  and 59,877,432
shares underlying  convertible  preferred stock at December 31, 2001.  Effective
January 11,  2002,  the Company  issued an aggregate  of  76,884,122  new common
shares, (the "New Common Shares") pursuant to shareholder  approval of the Halco
Investment  (see  Note  3  to  Consolidated  Financial  Statements).  The  Halco
Investment was completed on November 20, 2001, subject to shareholder  approval;
accordingly,  the  calculation  of basic and diluted  EPS  assumes  that the New
Common  Shares were issued as of November 20,  2001.  As part of the issuance of
the New Common  Shares,  all of the Company's  convertible  preferred  stock was
converted to common stock.

        Use of Estimates

The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America,  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 materially differ from those
estimates.

        Financial Instruments

SFAS No. 107, "Disclosures about Fair Value of Financial Instruments",  requires
disclosure of fair value  information  about financial  instruments.  Fair value
estimates  discussed  herein  are based  upon  certain  market  assumptions  and
pertinent information available to management as of December 31, 2002 and 2001.

The respective carrying value of certain on-balance-sheet  financial instruments
approximated  their fair values.  These financial  instruments  include cash and
cash equivalents, accounts receivable, accounts payable and accrued liabilities.
Fair values were  assumed to  approximate  carrying  values for these  financial
instruments  since  they are short  term in nature  and their  carrying  amounts
approximate  fair  values or they are  receivable  or  payable  on  demand.  The
carrying  value of the  Company's  marketable  securities  equaled  their quoted
market value at December 31, 2001.  The fair value of the  Company's  borrowings
(current and  long-term)  is estimated  based upon quoted  market prices for the
same or similar  issues or on the current  rates offered to the Company for debt
of the same remaining  maturities.  The carrying value  approximates  their fair
value.

        Dependence on Suppliers

The Company  has and will  continue  to rely on outside  vendors to  manufacture
certain  subsystems and  electronic  components  and  subassemblies  used in the
production of the Company's  Storage  Solutions  products.  Certain  components,
subassemblies,  materials and equipment  necessary  for the  manufacture  of the
Company's  Storage  Solutions  products are obtained  from a sole  supplier or a
limited  group of suppliers.  The Company  performs  ongoing  quality and supply
evaluation  reviews with its outside  vendors.  Supply,  delivery and quality of
subsystems and electronic  components  and  subassemblies  have been adequate to
fulfill  customer  orders and management  does not expect any vendor problems in
the next twelve months.

        Reclassifications

Certain prior years'  amounts have been  reclassified  to conform to the current
year's presentations. These reclassifications had no impact on operating results
previously reported.


<PAGE> 45


        Comprehensive Income

SFAS  No.  130,  Reporting  Comprehensive  Income,  established  rules  for  the
reporting and display of  comprehensive  income  (loss) and its  components in a
full  set  of  general-purpose   financial   statements.   The  Company  had  no
comprehensive income (loss) for all periods presented.

        Recent Authoritative Pronouncements

In December 2002, the Financial  Accounting Standards Board ("FASB") issued SFAS
No. 148, "Accounting for Stock-Based  Compensation-  Transition and Disclosure",
an amendment to SFAS No. 123,  "Accounting  for  Stock-Based  Compensation"  and
Accounting   Principles  Board  ("APB")  Opinion  No.  28,  "Interim   Financial
Reporting."  SFAS No. 148 provides for alternative  methods of transition for an
entity that voluntarily changes to the fair value based method of accounting for
stock-based  employee  compensation.  In  addition,  SFAS No. 148 (i) amends the
disclosure  provisions of SFAS No. 123 to require prominent disclosure about the
effects on reported net income of an entity's  accounting  policy decisions with
respect to stock-based  employee  compensation;  and (ii) amends APB Opinion No.
128 to require disclosure about those effects in interim financial  information.
Provisions  of SFAS No. 148 relating to amendments to SFAS No. 123 are effective
for  financial  statements  for fiscal  years  ending  after  December 31, 2002.
Earlier  application of certain transition  provisions is permitted for entities
with a fiscal year ending prior to December 15, 2002,  provided  that  financial
statements  for the 2002 fiscal year had not been issued as of the date SFAS No.
148 was issued.  Provisions of SFAS No. 148 relating to amending APB Opinion No.
28 are effective  for  financial  reports for interim  periods  beginning  after
December  15,  2002.  The  Company  does not  anticipate  the  adoption  of this
statement  will have a material  effect on the Company's  financial  position or
results of operations.

In November  2002,  the FASB  issued  Interpretation  No. 45 (FIN), "Guarantor's
Accounting  and  Disclosure  Requirements  for  Guarantees,  Including  Indirect
Guarantees of Indebtedness of Others", an  interpretation  of SFAS No. 5, 57 and
107 and  rescission of FIN No. 34, which  addresses  disclosures to be made by a
guarantor in its interim and annual  financial  statements about its obligations
under certain guarantees that it has issued. Provisions of FIN No. 45 related to
recognition and initial  measurement are to be applied on a prospective basis to
guarantees issued or modified after December 31, 2002.  Provisions of FIN No. 45
related to disclosure  requirements  are  effective for financial  statements of
interim and annual  periods ending after December 15, 2002. The Company does not
anticipate the adoption of this pronouncement will have a material effect on the
Company's financial position or results of operations.

In July 2002,  the FASB issued SFAS No. 146,  "Accounting  for Costs  Associated
with Exit or Disposal  Activities"  (effective  January 1,  2003).  SFAS No. 146
replaces  current  accounting  literature and requires the  recognition of costs
associated  with exit or disposal  activities when they are incurred rather than
at the date of a commitment  to an exit or disposal  plan.  The Company does not
anticipate  the adoption of this  statement  will have a material  effect on the
Company's financial position or results of operations.

In April 2002, the FASB issued SFAS No. 145,  "Rescission of SFAS No. 4, 44, and
64, Amendment of SFAS No. 13, and Technical Corrections".  SFAS No. 145 rescinds
SFAS No. 4, "Reporting Gains and Losses from  Extinguishment  of Debt", SFAS No.
44,  "Accounting  for  Intangible  Assets of Motor  Carriers",  and SFAS No. 64,
"Extinguishments of Debt Made to Satisfy  Sinking-Fund  Requirements".  SFAS No.
145  requires,  among  other  things (i) that the  modification  of a lease that
results in a change of the classification of the lease from capital to operating
under  the  provisions  of SFAS  No.  13 be  accounted  for as a  sale-leaseback
transaction,  and  (ii)  the  reporting  of  gains  or  losses  from  the  early
extinguishment of debt as extraordinary  items only if they meet the criteria of
APB Opinion No. 30, Reporting the Results of Operations.


<PAGE> 46


The amendment of SFAS No. 13 is effective for transactions occurring on or after
May 15, 2002.  Although  the  rescission  of SFAS No. 4 is effective  January 1,
2003,  the FASB has encouraged  early  application of the provisions of SFAS No.
145.  Effective in the third quarter of 2002,  the Company  adopted SFAS No. 145
and determined that gains and losses previously  reported as extraordinary items
during 2002 and 2001 no longer meet the  criteria as set forth under APB Opinion
No.  30 and  have  reported  those  items as Other  Income  in the  accompanying
consolidated financial statements.

In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived  Assets".  SFAS No. 144 establishes the accounting  model
for  long-lived  assets to be disposed of by sale and applies to all  long-lived
assets,  including  discontinued  operations.  SFAS No. 144 requires  that those
long-lived assets be measured at the lower of carrying amount or fair value less
cost to sell,  whether  reported in  continuing  operations  or in  discontinued
operations.  SFAS No. 144 was  effective  for  financial  statements  issued for
fiscal years beginning after December 15, 2001 and, generally, was to be applied
prospectively.  SFAS No. 144 was effective for the Company commencing January 1,
2002 and had no  impact  on the  Company's  financial  position  or  results  of
operations.

In July 2001,  the FASB  issued  SFAS No.  142, "Goodwill  and Other  Intangible
Assets", which addresses how intangible assets that are acquired individually or
with a group of other  assets  should be accounted  for upon their  acquisition.
SFAS No. 142 also addresses how goodwill and other  intangible  assets should be
accounted  for after  they  have  been  initially  recognized  in the  financial
statements. SFAS No. 142 was effective for fiscal years beginning after December
15, 2001, with earlier adoption permitted.  The Company's implementation of SFAS
No. 142 in 2002 resulted in the discontinuation of amortization of goodwill with
a  carrying  amount  of  approximately  $2  million  as of  December  31,  2001.
Amortization for the years ended December 31, 2001 and 2000 amounted to $408,000
and $2.6  million,  respectively.  Goodwill  is subject to an annual  review for
impairment.

In July  2001, the FASB  issued  SFAS No.  141, "Business  Combinations",  which
requires business combinations initiated after June 30, 2001 to be accounted for
using the purchase method of accounting. In addition, SFAS No. 141 specifies the
types of acquired  intangible  assets that are  required  to be  recognized  and
reported  separately  from  goodwill.   SFAS  No.  141  impacted  the  Company's
Stonehouse  acquisition  that occurred in June 2002 (see Note 2 to  Consolidated
Financial Statements).


 (2)  ACQUISITIONS

        Stonehouse

Terms of the Acquisition

On June 7, 2002, the Company  acquired 100% of the outstanding  capital stock of
Stonehouse from Pacific  Technology Group, Inc. ("PTG"), a subsidiary of Pacific
USA  Holdings  Corp  ("PUSA")(the  "Acquisition").  The  purchase  price of $8.9
million,  including $541,000 in transaction costs, was based upon a market value
of $.31 per share,  the average of the Company's  closing  market prices for the
four days  before and after the terms of the  Acquisition  were agreed to (April
30, 2002), and consisted of the issuance of 22.5 million shares of the Company's
common stock and 1,000 shares of the Company's  Series L  Convertible  Preferred
Stock.  The Series L Convertible  Preferred Stock was convertible into 4,527,027
shares of common  stock,  subject to  shareholder  approval,  which was obtained
effective  October 8,  2002,  at which time the  common  shares  were  issued in
exchange for the Series L Convertible Preferred Stock. In addition,  the Company
is  obligated  to issue  additional  shares of common stock based on an earn-out
provision, whereby in the event Stonehouse's pretax income (defined in the Stock
Purchase   Agreement  as  "Net  Revenues")  exceeds  $1  million  for  the  four
consecutive  calendar quarters beginning on October 1, 2002, the Company will be
required to issue to PTG that number of additional  shares of common stock equal
to the product of 27.027 and the amount of Net Revenues in excess of $1 million,
up to a maximum of 8,687,258 additional common shares. The potential issuance of
such shares was also approved by the Company's  shareholders on October 8, 2002.
At December 31,  2002,  there was no basis for the Company to record a liability
related to the earn-out provision.


<PAGE> 47


Reasons for the Acquisition

In an effort to improve  the  Company's  financial  condition  and future  sales
revenues,  the Company developed a strategic business  relationship with Pacific
Electric  Wire & Cable  Co.,  Ltd.  ("PEWC"),  the  parent  of  PUSA.  PEWC is a
Taiwan-based  corporation,  traded on the Taiwan Stock Exchange. As described in
Note 9 to the Consolidated  Financial  Statements,  effective March 1, 2002, the
Company entered into a Reseller  Agreement with another  subsidiary of PUSA, and
also granted an option to that  subsidiary  to purchase up to 30 million  common
shares at an exercise price of $.40 per share. The option expired unexercised on
November 30, 2002. The Company also began  exploring ways to further develop its
relationship with PEWC by combining nStor with Stonehouse.

The Company  believed that the  Acquisition  would have a positive impact on its
operating  results  from a cash  flow  standpoint.  Further,  Stonehouse  has an
expansive  customer  base,  including  major U.S.  corporations  and  government
agencies, through which the Company may be able to market its Storage Solutions,
which in turn would have a positive impact on the Company's operations.

In addition,  the Company believed that the increase to its shareholders' equity
resulting from the Acquisition would assist the Company in its efforts to regain
compliance with the continued  listing  standards of the American Stock Exchange
("AMEX").

Accounting for the Acquisition

The  Acquisition  was accounted for under the purchase method of accounting with
assets acquired and liabilities  assumed recorded at estimated fair values as of
the Acquisition date in accordance with SFAS No. 141, Business Combinations, and
the results of Stonehouse's  operations  included in the Company's  consolidated
financial statements from the Acquisition date. Allocation of the purchase price
has been  made on a  preliminary  basis  subject  to  adjustment  should  new or
additional  facts about the business become known over the ensuing twelve months
following  the  Acquisition.  Based  on a  valuation  analysis  completed  by an
independent  valuation  firm,  the  allocation  of the purchase  price  included
intangible  assets with an aggregate  fair value of $2.8 million and goodwill of
$6.5  million.  Intangible  assets with finite  useful lives were  identified as
follows: (i) customer  relationships  (approximately $2 million);  (ii) software
($531,000);  and (iii)  non-compete  agreement  ($224,000),  with  corresponding
useful  lives of ten,  five,  and four  years,  respectively.  The excess of the
purchase price over the fair value of net assets acquired  (goodwill) is subject
to an annual review for impairment in accordance with SFAS No. 142, Goodwill and
Other  Intangible  Assets,  adopted  by  the  Company  in  2002  (see  Note 5 to
Consolidated Financial Statements).

About Stonehouse

Stonehouse, based in Plano, Texas, provides software and services solutions that
help  large  enterprises  manage  their  communications  expenses,   assets  and
processes.   These  solutions  include  a  suite  of  modular  applications  and
consulting services,  which allow enterprises to manage voice, data and wireless
services by  providing a  systematic  approach  to  automate  order  processing,
monitor expenses,  manage vendor invoices,  track asset inventory,  and allocate
costs.


<PAGE> 48


The following  unaudited pro forma results of operations  assume the Acquisition
occurred  at the  beginning  of the years ended  December  31, 2002 and 2001 (in
thousands, except per share data):

                                       2002                       2001
                              ------------------------   -----------------------
                                               Pro                      Pro
                              Historical(a)   forma      Historical    forma
                                             Combined                Combined(b)
                              -----------   ----------   ----------  -----------
Sales                           $10,790      $13,604      $17,886      $24,494

Net loss before preferred
  stock dividends              ($ 7,984)    ($ 8,004)    ($13,958)    ($17,155)

Net loss applicable to
  common shareholders          ($ 7,984)    ($ 8,004)    ($18,518)    ($21,715)

Basic and diluted net loss
  per common share             ($   .06)    ($   .06)    ($   .41)    ($   .16)

Weighted average number of
  common shares used in per
  share computation, basic
  and diluted                   128,899      142,050       44,833      137,550

(a) Historical amounts include  Stonehouse's results of operations for the seven
months ended December 31, 2002.

(b) The 2001 pro  forma  combined  net loss  reflects  the  implementation  of a
revised  business  plan  by  Stonehouse,   beginning  in  February  2001,  by  a
newly-employed  business  team,  which  contemplated  substantial  increases  to
marketing,  sales and administrative  programs, in order to significantly expand
future revenues. Stonehouse subsequently determined that the new plan was not in
its best  interests and, as a result,  during the fourth  quarter of 2001,  this
plan was discontinued.  Stonehouse's  previous top executive reassumed the chief
executive  officer duties and the new business team and certain other  employees
were  terminated  in the  fourth  quarter  of 2001 or  early  2002.  Significant
operating  expenses related to the  discontinued  business plan were incurred in
2001.

The  following  table shows the amount  assigned to each of  Stonehouse's  major
assets and liabilities at the date of Acquisition (in thousands):

                             ASSETS
               Cash                                             $   298
               Accounts receivable                                1,618
               Prepaid expenses                                     101
                                                                -------
                      Total current assets                        2,017

               Property and equipment                                89
               Goodwill                                           6,473
               Other intangible assets                            2,800
                                                                -------
                                                                $11,379
                                                                =======
                             LIABILITIES
               Bank line of credit                              $   200
               Accounts payable and other liabilities               556
               Deferred revenue                                   1,704
                                                                -------
                      Total current liabilities                   2,460

               Purchase Price                                     8,919
                                                                -------
                                                                $11,379
                                                                =======


<PAGE> 49


        OneofUs

On January 19, 2000,  the Company  acquired  substantially  all of the assets of
OneofUs  Company  Limited  ("OneofUs")  for an aggregate  purchase price of $2.9
million,  consisting of $250,000 cash and 776,119 shares of the Company's common
stock  with an  aggregate  value of $2.6  million  (based on the  average of the
closing  prices of the  Company's  stock  during the ten (10) trading days ended
January 19, 2000). The shares were issued to four selling stockholders  pursuant
to   employment   agreements   or   a   confidentiality,    noncompetition   and
nonsolicitation agreement.  OneofUs was a Taiwan-based,  privately-held designer
of high  performance  Fibre Channel  controllers and storage  solutions for open
systems and the Storage Area Network (SAN) market.

The  acquisition  of OneofUs  was  accounted  for using the  purchase  method of
accounting with goodwill of $2.8 million  recorded,  which,  until the Company's
adoption of SFAS No. 141  effective  January 1, 2002,  was being  amortized on a
straight-line  basis over seven  years.  Unamortized  goodwill  attributable  to
OneofUs at December 31, 2002 amounted to approximately $2 million.


(3)  HALCO INVESTMENT

On November 20, 2001 (the "Closing Date"),  the Company  completed a transaction
in which Halco Investments L.C. ("Halco"), a company controlled by Mr. Halperin,
acquired a 34% equity interest in, and made certain loans to, the Company for an
aggregate investment of $12.1 million (the "Halco  Investment").  On the Closing
Date,  Halco  acquired  8,970 shares of the  Company's  newly  created  Series K
Convertible  Preferred  Stock (the  "Series K Preferred  Stock" - see Note 14 to
Consolidated  Financial Statements),  with a face amount of $8,970,000,  and the
Company  issued a $3.1  million,  5-year,  8% note  (the  "Halco  Note").  Halco
invested $6 million in cash and  marketable  securities  having a quoted  market
value of $6.1  million,  based on the  closing  price  for  such  securities  on
November 19, 2001.

Mr. Halperin first  submitted an investment  proposal to the Company on June 26,
2001.  The Company  subsequently  negotiated the terms of the offer from July to
November 2001, during which time, Halco made short-term working capital loans to
the Company in the aggregate  amount of $5 million at an interest rate of 8% per
annum. Of that amount,  on the Closing Date, $3.1 million was converted into the
Halco Note and the  remaining  amount was  applied to the cash paid by Halco for
the Series K Preferred Stock. In connection with Mr. Halperin's proposal and the
interim financing  provided by Halco, on August 15, 2001, the Company's board of
directors  elected Mr.  Halperin as Chairman,  replacing the then Chairman,  Mr.
Levy, who became Vice Chairman of the board of directors.

In connection with and as conditions to the Halco Investment, it was agreed that
an aggregate of 76,884,122  New Common Shares were to be issued as follows:  (i)
the Series K Preferred Stock, owned by Halco, was to be automatically  converted
into 39 million  shares of the Company's  common stock,  based upon a conversion
price of $.23 per share, upon approval of the Company's  shareholders;  (ii) all
of the holders of the Company's  other  convertible  preferred stock (the "Other
Preferred  Stock") agreed to convert their shares of preferred stock into common
stock  (20,877,432  shares of common stock,  including  10,752,527 to Mr. Levy);
(iii) the  Company and the holders of the Other  Preferred  Stock  agreed to the
issuance of: (a) 12,993,072 shares of common stock,  including  6,651,488 to Mr.
Levy,  to induce  those  holders  to  convert  their  shares,  all of which were
entitled to periodic  dividends,  into shares of common  stock,  which had never
received a dividend  (the  "Inducement  Shares"),  and (b)  3,263,618  shares of
common  stock,  including  1,658,064  to Mr.  Levy (the  "Dividend  Shares")  in
satisfaction  of an aggregate of $1.5  million of accrued  dividends  (including
$746,000  to Mr.  Levy) on the date of  conversion  (the  Inducement  Shares and
Dividend Shares were based upon a conversion price of $.45 per share);  and (iv)
Mr. Levy agreed to the receipt of 750,000  shares of the Company's  common stock
in exchange  for  $300,000  owed by the Company to Mr. Levy (the "Note  Shares")
based upon a conversion price of $.40 per share.


<PAGE> 50


On the Closing  Date,  shareholders  who owned in excess of 50% of the Company's
voting stock  executed  proxies to vote in favor of the foregoing  transactions.
However, formal shareholder approval of the transactions was required before the
Company could issue the common stock  necessary for the conversion of the Series
K Preferred  Stock,  the Note  Shares,  the  Inducement  Shares and the Dividend
Shares. On January 10, 2002,  shareholder  approval was received and the Company
issued the New  Common  Shares  effective  January  11,  2002.  Accordingly,  to
appropriately  reflect the financial position of the Company in the accompanying
consolidated financial statements,  the foregoing transactions,  as shown in the
following  table,  were assumed to have  occurred as of November  20, 2001,  the
Closing Date of the Halco Investment.

<TABLE>
<CAPTION>

          Balances at January 10, 2002                               New Common Shares
 (Considered Converted to New Common Shares                 Issued Effective January 11, 2002
       at December 31, 2001)                        (Considered Outstanding at December 31, 2001)
---------------------------------------------  --------------------------------------------------
                        Aggregate    Accrued                                             Total
Preferred  Number of   Stated Value Dividends  Conversion    Inducement   Dividend     New Common
  Series     Shares        (in thousands)         Shares        Shares      Shares      Shares
---------  ---------   ----------------------  -----------   ----------   ---------   -----------
<S>        <C>         <C>                     <C>            <C>         <C>         <C>
   E         3,500       $ 3,500    $  405      1,166,666     1,166,666     899,665     3,232,997
   H         5,100         5,100       383      7,083,333     4,250,000     850,776    12,184,109
   I         9,092         9,092       681     12,627,433     7,576,406   1,513,177    21,717,016
   K         8,970         8,970         -     39,000,000             -           -    39,000,000
                        --------    ------     ----------    ----------   ---------   -----------
                         $26,662    $1,469     59,877,432    12,993,072   3,263,618    76,134,122
                        ========    ======     ==========    ==========   =========

Note Shares                                                                               750,000
                                                                                      -----------
Total New Common Shares issued effective January 11, 2002                              76,884,122

Common shares outstanding at December 31, 2001                                         37,719,022
                                                                                      -----------
Common shares outstanding at January 11, 2002
 (considered outstanding at December 31, 2001)                                        114,603,144
                                                                                      ===========
</TABLE>

In accordance with the Security and Exchange  Commission's  staff position in an
Emerging Issues Task Force (EITF) pronouncement (Topic D-42) relating to induced
conversions  of  preferred  stock,  the Company  recorded a $3 million  non-cash
charge to arrive at net loss available to common stock in 2001, representing the
fair value of the Inducement Shares. The fair value was based on $.23 per share,
the price paid by Halco for its purchase of 39 million  shares of the  Company's
common stock.


<PAGE> 51


(4) BALANCE SHEET COMPONENTS (in thousands)

As of December 31, 2002,  substantially all the Company's assets were pledged as
collateral for indebtedness (see Note 8 to Consolidated Financial Statements).

                                                      December 31,
                                                   -----------------
                                                     2002      2001
                                                   -------   -------

Accounts Receivable
     Trade receivables                              $1,391   $ 2,113
     Less allowance for doubtful accounts             (457)     (209)
                                                   -------   -------
                                                       934     1,904
     Other receivables                                   -        21
                                                   -------   -------
                                                    $  934   $ 1,925
                                                   =======   =======

Inventories
     Raw materials                                  $  363   $   880
     Work-in-process                                   501       361
     Finished goods                                    215       123
                                                   -------   -------
                                                    $1,079   $ 1,364
                                                   =======   =======

During 2001, the Company recorded  write-downs of $2.5 million  resulting from a
valuation  of  certain   inventory  (see  Note  19  to  Consolidated   Financial
Statements).

Property and Equipment
     Furniture, fixtures and office equipment       $  194    $  325
     Computer equipment                                188     5,011
     Computer software                                   -       770
     Leasehold improvements                              9       866
     Other                                               -        36
                                                   -------   -------
                                                       391     7,008
     Less accumulated depreciation                     (88)   (5,641)
                                                   -------   -------
                                                    $  303    $1,367
                                                   =======   =======

Depreciation  expense  amounted to $1.3  million and $1.2  million for the years
ended December 31, 2002 and 2001,  respectively.  Principally as a result of the
Company's relocation from San Diego, California to Carlsbad, California in 2002,
the  Company  wrote  off  abandoned  and  fully  depreciated  fixed  assets  and
accumulated  depreciation  related to those assets (see Note 11 to  Consolidated
Financial Statements).

Accounts Payable and Other
     Accounts payable                               $1,658   $ 1,780
     Accrued expenses and other
      current liabilities                            1,519     2,010
                                                   -------   -------
                                                    $3,177   $ 3,790
                                                   =======   =======


(5)  GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill,  representing the excess of the cost of an acquired  business over the
fair value of net assets acquired,  is carried at cost and, through December 31,
2001, was amortized under the straight line method over seven years.

Effective January 1, 2002, the Company adopted SFAS No. 142, which requires that
goodwill and certain  intangible  assets no longer be amortized,  but instead be
tested at least  annually  for  impairment.  Accordingly,  there was no goodwill
amortization  recognized during the year ended December 31, 2002, as compared to
$408,000 and $2.6 million in 2001 and 2000, respectively.


<PAGE> 52


In accordance  with SFAS No. 142,  prior period  amounts are not permitted to be
restated.  A  reconciliation  of reported net loss to net loss  adjusted for the
exclusion of  amortization of goodwill for the years ended December 31, 2001 and
2000 follows (in thousands, except per share):

                                                         2001            2000
                                                    ----------------------------
Reported net loss applicable to common stock           ($18,518)       ($22,606)
  Less goodwill amortization                                408           2,556
                                                     -----------     -----------
Adjusted net loss                                      ($18,110)       ($20,050)
                                                     ===========     ===========
Weighted average number of common shares
  considered outstanding                             44,832,503      32,789,832
                                                     ===========     ===========
Basic and diluted net loss per common
  share as reported                                     ($ 0.41)        ($ 0.69)
                                                     ===========     ===========
Adjusted net loss per common share                      ($ 0.40)        ($ 0.61)
                                                     ===========     ===========

During early 2003, the Company engaged an independent  valuation firm to prepare
an impairment analysis of the Company's goodwill, including goodwill acquired in
the Stonehouse  Acquisition.  Based on this analysis,  the Company's goodwill is
not considered to be impaired as of January 1, 2003.

As of December 31, 2002,  the carrying  amount of goodwill and other  intangible
assets was approximately $8.5 million and $2.9 million,  respectively,  of which
$6.5  million  of  goodwill  and $2.6  million  of other  intangible  assets  is
attributable to the June 2002 Stonehouse Acquisition (see Note 2 to Consolidated
Financial Statements). In addition, the Company capitalized $300,000 in software
development costs associated with its Telecommunication  Solutions business (see
Note 1 to Consolidated Financial  Statements).  Amortization of other intangible
assets for the year ended December 31, 2002 was $214,000.


(6)  TRADING MARKETABLE SECURITIES

In connection with the Halco  Investment  (see Note 3 to Consolidated  Financial
Statements) on November 20, 2001,  the Company  received  marketable  securities
with a quoted  market value of $6.1  million,  including  approximately  434,000
shares of American  Realty  Investors  Inc.  ("ARL"),  a New York Stock Exchange
listed company, with a quoted market value of $5.2 million. Through December 31,
2001,  the  Company  received  net cash  proceeds  of  approximately  $1 million
principally from the sale of all of the non-ARL securities,  and realized a gain
of  $86,000.  Unrealized  losses at  December  31,  2001 on the ARL shares  were
$897,000, resulting in a net loss of $811,000.

Due to ARL's low trading volume, the Company's ability to sell or borrow against
the ARL holdings had been  extremely  limited.  From  November  2001 through mid
March 2002,  the Company had been able to sell only 56,300  shares in the public
market, generating cash proceeds of $442,000. To assist in funding the Company's
working  capital  requirements,  in February  and March 2002,  the Company and a
company controlled by Mr. Levy, Hilcoast  Development Corp ("Hilcoast")  entered
into  agreements  whereby  Hilcoast  purchased  195,000  shares  of ARL  with an
aggregate quoted value of approximately $1.5 million on the respective  purchase
dates  for an  aggregate  purchase  price  of  approximately  $1.2  million.  In
connection  therewith,  Hilcoast  granted  the  Company  four-month  options  to
repurchase  all or a portion of those  shares based on the price  Hilcoast  paid
plus 10% per annum (the "Options"). In February and March 2002, the Company sold
183,000  shares,  representing  all of its  remaining  holdings  in ARL,  to Mr.
Halperin for an aggregate  purchase price of approximately  $1.3 million,  which
approximated ARL's quoted value on the respective purchase dates. In April 2002,
the Company received $206,000 in cash proceeds from the exercise of the Options.
As a result  of the ARL  sales  in 2002,  the  Company  realized  a loss of $1.1
million  for the year ended  December  31,  2002,  net of the  $206,000  Options
proceeds.


<PAGE> 53


(7)  INCOME TAXES

The Company  accounts for income taxes in  accordance  with SFAS No. 109,  which
requires  recognition  of deferred tax assets and  liabilities  for the expected
future tax  consequences  of events  that have been  included  in the  financial
statements or tax returns.  Under the SFAS No. 109 asset and  liability  method,
deferred tax assets and  liabilities  are  determined  based upon the difference
between the financial  statement and tax bases of assets and  liabilities  using
enacted  tax rates in  effect  for the  year(s)  in which  the  differences  are
expected to reverse.

A  reconciliation  of the provision  for income taxes to the amount  computed by
applying  the  statutory  federal  income tax rate to loss before  income  taxes
follows (dollars in thousands):

                                               Years Ended December 31,
                                          ---------------------------------
                                            2002         2001         2000
                                          --------     --------    --------

Amount computed at federal statutory
  rate of 34%                             ($2,698)     ($4,745)     ($7,453)
Impairment of goodwill not
  deductible for tax                            -            -        4,065
Non-deductible amortization of in-
  tangible assets                              73          127          840
Expenses not deductible for tax
  purposes                                     18           80           62
Losses not deductible for tax purposes          -          123          425
Exercise of non-qualified stock options         -            -          (44)
Fair value of option granted to customer      204            -            -
Losses for which no current benefits
  are available                             2,403        4,415        2,105
                                         --------      --------     -------
Provision for income taxes               $      -      $     -      $     -
                                         ========      ========     =======

The tax effects of temporary  differences that gave rise to significant portions
of deferred tax assets are as follows (in thousands):

                                                          December 31,
                                                      -------------------
                                                         2002        2001
                                                      -------    --------
    Deferred tax assets:
       Net operating loss carryforwards               $24,026     $18,643
       Alternative minimum tax carryforwards              770         770
       Research and development credit carryforwards    1,559       1,244
       Depreciation and amortization                    1,884       1,923
       Allowance for doubtful accounts                    155           3
       Inventory and warranty reserves                    198       1,587
                                                      -------     -------
    Net deferred tax assets                            28,592      24,170
    Less valuation allowance                          (28,592)    (24,170)
                                                      -------     -------
    Deferred taxes                                    $     -     $     -
                                                      =======     =======

At December 31, 2002 and 2001, a 100%  valuation  allowance has been provided on
the total deferred income tax assets because it is more likely than not that the
net operating loss  carryforwards will not be realized based on recent operating
results.


<PAGE> 54


As of December 31, 2002, there were unused net operating loss carryforwards (the
"NOL's") for regular  federal tax purposes of  approximately  $70.5  million and
approximately  $13.1 million for  California  tax  purposes,  expiring from 2006
through 2022 and 2004 through 2013,  respectively.  In addition, the Company has
research and development tax credit carryforwards of approximately $1.6 million,
which  expire from 2003 through 2022 and, in  conjunction  with the  Alternative
Minimum Tax ("AMT") rules, the Company has available AMT credit carryforwards of
approximately  $.8 million at  December 31, 2002, which may be used indefinitely
to reduce regular federal income taxes.

Under Internal Revenue Code Section 382, in connection with a 1999  acquisition,
the usage of  approximately  $8 million of federal  NOL's and  approximately  $2
million of California NOL's is limited  annually to  approximately  $.4 million.
Currently,  California  has a moratorium on the usage of its NOL's. The usage of
certain tax credit carryforwards is also subject to limitation.  In addition, in
connection  with the  Stonehouse  Acquisition,  the  usage of  approximately  $4
million of federal NOL's is limited annually to approximately $500,000.


(8)  BORROWINGS

Revolving Credit Facilities

At December  31, 2001,  the Company had a revolving  bank credit  facility  (the
"Bank Line of Credit"), which provided for borrowings based on the lesser of $10
million or: (i) 85% of eligible accounts receivable,  as defined,  plus (ii) the
lesser of $1.3 million or 20% of eligible inventory,  as defined  (collectively,
the "Borrowing Base"). The Bank Line of Credit bore interest at prime plus 2.5%,
was scheduled to mature in April 2002, was  collateralized  by substantially all
of the Company's assets, and provided for certain financial covenants, including
minimum net worth and net income  requirements.  As of December  31,  2001,  the
outstanding balance of the Bank Line of Credit was $3 million.

Since the fourth  quarter of 2000,  the Company had not been in compliance  with
the minimum net worth and net income requirements under the Bank Line of Credit.
On February 4, 2002, the bank advised the Company that the outstanding principal
balance  exceeded the  Borrowing  Base by $1.1  million and  demanded  immediate
payment of the over-advance. The bank also indicated that the Company's non-bank
indebtedness of approximately $4.7 million was incurred in violation of the loan
agreement. In addition, the bank increased the interest rate to prime plus 3.5%,
decreased  the overall  facility to $3.5 million and advised the Company that it
did not intend to renew the Bank Line of Credit.  The Company  repaid the entire
outstanding balance by July 30, 2002.

In August 2002,  the Company  entered into an Agreement For Purchase of Accounts
with a financial  institution (the  "Purchaser"),  which provides for a $750,000
line of credit  under  which  the  Company  may sell  customer  invoices  to the
Purchaser.  The  Purchaser  advances  80% of the net face  amount  of  qualified
invoices and remits the  remaining  20%, less its fees,  upon  collection of the
invoice in full.  The Company is obligated to repay the  Purchaser  for invoices
not paid within 90 days.  The  Purchaser's  fees are based on a rate of .07% per
day. The Agreement is  collateralized  by substantially all of the assets of the
Company's  Storage Solutions  subsidiary.  At December 31, 2002, the uncollected
balance of customer  invoices  sold to the Purchaser  amounted to  approximately
$813,000. Interest expense related to this agreement amounted to $49,000 for the
year ended December 31, 2002.


<PAGE> 55


Stonehouse  has a revolving  bank credit  facility (the  "Stonehouse  Revolver")
under which  Stonehouse  may borrow up to the lesser of  $500,000  or  specified
percentages of eligible  accounts  receivable,  is payable upon demand and bears
interest at prime plus 1% (5.25% at December  31,  2002).  Borrowings  under the
Stonehouse  Revolver are collateralized by accounts receivable and certain other
assets of Stonehouse.  At December 31, 2002, the outstanding  principal  balance
under the Stonehouse Revolver was $200,000.

Other Borrowings

The Company's other borrowings consisted of the following (in thousands):

                                                               December 31,
                                                           ----------------
                                                              2002     2001
                                                           -------  -------
Current:

Notes payable to Mr. Levy, interest only at
  8% to 10% per annum, maturing on May 31,
  2003 and June 30, 2003 (a) and (b)                        $3,398   $  650

Notes payable, interest only at 8% per annum, payable
  monthly, maturing on June 6, 2003                            500        -

Note payable, interest at 10% per annum, payable
  March 15, 2003 (c)                                           450      450

Other notes payable                                            336        -
                                                            ------   ------
                                                            $4,684   $1,100
                                                            ======   ======
Long-term:

Halco Note, interest only at 8% per annum, payable
  quarterly, maturing on November 20, 2006 (d)              $3,100   $3,100

Notes payable, interest only at 8% per annum, payable
  monthly, maturing on June 6, 2003                              -      500
                                                            ------   ------
                                                            $3,100   $3,600
                                                            ======   ======

        (a)  Included  in  Notes  Payable  to  Mr.  Levy  is a  10%  convertible
subordinated  promissory  note (the "New Levy Note") in the amount of  $650,000,
dated June 14, 2002.  The New Levy Note  replaced  three  previously  issued 10%
notes,  aggregating $650,000,  and is convertible at the Company's option at any
time  prior to  maturity  on June 14,  2003 and  after the date on which (i) the
Company receives notice of delisting from AMEX, and (ii) the New Halco Note (see
d) has been  converted  into shares of the  Company's  common  stock and in each
case, only to the extent deemed  necessary to maintain the Company's  listing on
AMEX, at a per share  conversion  price equal to 85% of the closing bid price of
the Company's  common stock on the trading day immediately  prior to the date of
conversion.  The New Levy Note is  collateralized  by  substantially  all of the
assets of the Company's Storage Solutions subsidiary.

        (b) In connection with the Company's outsource contract with Varian, Mr.
Levy provided  collateral for a bank to issue a $1 million LC for the benefit of
Varian,  subsequently  reduced to $750,000  effective  December  30,  2002.  The
Company has agreed to  indemnify  Mr. Levy for any amounts paid by Mr. Levy as a
result of Varian drawing upon the LC. From the date of issuance through February
28, 2003, no amounts had been drawn on the LC. The LC expires on April 15, 2003.


<PAGE> 56


        (c) Bernard Marden, a private  investor who beneficially  owns in excess
of 10% of the  Company's  common  stock  ("Mr.  Marden")  is the  holder  of the
$450,000 note, payable March 15, 2003, as extended.  Mr. Marden had the right at
any time prior to  maturity  to convert  the note into  shares of the  Company's
common stock based on a fixed  conversion  price of $.40 per share. In addition,
the note was  collateralized by substantially all of the assets of the Company's
Storage Solutions subsidiary.  See Note 21 to Consolidated  Financial Statements
(Subsequent Events).

        (d) As a condition  to the closing of the  Stonehouse  Acquisition,  the
Company issued an 8% convertible  subordinated  promissory  note (the "New Halco
Note") to Halco in the  principal  amount of $3.1  million.  The New Halco  Note
replaced the Halco Note dated November 20, 2001, in the principal amount of $3.1
million (see Note 3 to Consolidated Financial Statements). The New Halco Note is
convertible  at the  Company's  option at any time prior to maturity on November
20, 2006 and after the date on which the Company  receives a notice of delisting
from AMEX,  in each case,  only to the extent  deemed  necessary to maintain the
Company's  listing on AMEX, at a per share  conversion price equal to 85% of the
closing  bid price of the  Company's  common  stock on AMEX on the  trading  day
immediately  prior to the date of conversion.  The New Halco Note is convertible
at the holder's option at any time after May 31, 2003 and prior to maturity at a
per  share  conversion  price  equal  to 110% of the  closing  bid  price of the
Company's  common  stock on the  trading  day  immediately  prior to the date of
conversion.

At December 31,  2000,  the  Company's  aggregate  borrowings  were $7.3 million
including  $1.7  million  owed to Mr. Levy at 10% per annum.  From  January 2001
through  March 31,  2001,  the  Company  borrowed  an  additional  $4.5  million
(including  $1.9 million from Mr. Levy),  of which $3.8 million  (including $1.3
million from Mr. Levy) was convertible  into the Company's common stock at $1.00
per share.  In connection with certain of this debt, the Company issued warrants
to purchase an aggregate of 1,137,500 shares (including  512,500 warrants to Mr.
Levy) of the Company's common stock, principally at $1.20 per share, exercisable
at issuance and expiring principally on March 31, 2004. The warrants were valued
based on the Black-Scholes  option-pricing  model as of the dates of issuance at
an aggregate of $396,000 and were recorded as a discount to the notes.

Effective April 12, 2001, holders of all of the Company's notes payable totaling
$11.9 million  (including accrued interest) on that date (including $3.6 million
due to Mr.  Levy)  exchanged  their notes for Series H and Series I  Convertible
Preferred Stock (see Note 14 to Consolidated Financial Statements) with a stated
value of $11.9 million.

From May 2001 through the closing of the Halco  Investment in November 2001, the
Company borrowed an additional $6.9 million,  including $5 million of short-term
borrowings  from Halco and $1.5 million from Mr. Levy.  Effective on the Closing
Date of the Halco Investment,  (i) the $5 million of short-term  borrowings from
Halco was  satisfied by the  conversion  of $3.1 million into the Halco Note and
the  application  of $1.9  million to the amount  paid by Halco for the Series K
Convertible  Preferred Stock and (ii) the Company agreed to satisfy  $300,000 of
borrowings from Mr. Levy by issuing 750,000 shares of the Company's common stock
(see Note 3 to  Consolidated  Financial  Statements).  In addition,  in December
2001,  Mr.  Levy  assigned  $500,000  of his  loans to  investors  in a  private
transaction in which Mr. Levy  purchased  Series H Convertible  Preferred  Stock
with a face amount of $1.7 million from those investors.

In connection with certain  borrowings  during 2001, the Company issued warrants
to purchase an aggregate of 625,000 shares  (including  400,000  warrants to Mr.
Levy) of the Company's common stock at exercise prices ranging from $.45 to $.75
per share,  exercisable  at issuance and expiring on June 30, 2004. The warrants
were valued based on the Black-Scholes  option-pricing  model as of the dates of
issuance  at an  aggregate  of $155,000  and were  recorded as a discount to the
notes.

Aggregate  accrued  interest payable as of December 31, 2002 was $240,000 to Mr.
Levy and $145,000 to Mr. Halperin.  No interest was paid to Mr. Levy in 2002 and
2001;  however,  in 2000,  Mr. Levy  received  $134,000  in  interest  payments.
Interest paid to Mr. Halperin was $131,000 in 2002 and $81,000 in 2001.

See Note 21 to  Consolidated  Financial  Statements  for a discussion  regarding
additional indebtedness incurred by the Company subsequent to December 31, 2002.


<PAGE> 57


Maturities

Scheduled and estimated maturities of the Company's  borrowings,  are as follows
(in thousands):

           Years ending December 31,
                   2003                  $4,684
                   2004                       -
                   2005                       -
                   2006                   3,100
                   2007                       -
                                         ------
              Total borrowings            7,784
              Less current portion       (4,684)
                                         ------
              Long-term portion          $3,100
                                         ======


(9)  FAIR VALUE OF OPTION GRANTED TO CUSTOMER

Effective  March 1, 2002, the Company  entered into a Reseller  Agreement with a
wholly-owned subsidiary of PEWC. The Agreement grants the subsidiary of PEWC the
right to market and sell the Company's products for a period of two (2) years in
Mainland  China and Taiwan on an exclusive  basis,  and in the United States and
Europe on a non-exclusive  basis.  The exclusivity  right is conditioned,  among
other items,  upon minimum  purchases by PEWC of $5 million through February 28,
2003 and $10 million during the subsequent year.  During the year ended February
28, 2003, PEWC did not achieve the minimum purchase requirement.

In  connection   with  its  efforts  to  develop  further   strategic   business
relationships  with  PEWC,  effective  March 1,  2002,  the  Company  granted  a
subsidiary  of PEWC an option to purchase up to thirty (30) million newly issued
shares of the  Company's  common  stock for a purchase  price of $.40 per share,
expiring on November 30, 2002.  The option was valued at $600,000 as of the date
of grant based on the Black-Scholes option-pricing model and other provisions of
SFAS No.  123,  Accounting  for  Stock  Based  Compensation,  and  related  EITF
guidance.  This amount was recorded as an expense in the accompanying  Statement
of  Operations  for the  year  ended  December  31,  2002.  The  option  expired
unexercised on November 30, 2002.


(10)  GAIN ON SALE OF ASSETS OF SUBSIDIARY

On January 10, 2000,  the Company sold  substantially  all of the assets of Borg
Adaptive Technologies  ("Borg"), a wholly-owned  subsidiary of the Company, to a
wholly-owned subsidiary of QLogic Corporation,  for $7.5 million cash (the "Borg
Sale").  The net book value of assets sold totaled  $620,000 and included all of
the  intellectual  property  rights  relating  to the  Company's  Adaptive  RAID
technology,  including  software,  patents and trademarks,  and certain tangible
assets,  including  test  and  office  equipment  and  tenant  improvements.  In
connection  with  the Borg  Sale,  the  Company  recorded  transaction  costs of
$487,000 and a gain of $5.6  million,  which is net of  compensation  expense of
$818,000 resulting from modifications to certain stock options and warrants.


<PAGE> 58


(11)  OTHER INCOME, NET

Other income, net of other expenses consisted of the following (in thousands):


                                                    2002        2001       2000
                                                  --------    --------   -------
Reduction in carrying value of liabilities
  to reflect the net amount due                    $  940      $  628      $   -
Negotiated discounts with vendors                     445       1,231          -
Loss on extinguishment of debt                          -        (362)         -
Write-off of assets related to abandoned
  facilities                                          (64)       (226)         -
Investment income                                       -           -         44
Other(expenses)income, net                            (44)          -         40
                                                   ------      ------      -----
                                                   $1,277      $1,271      $  84
                                                   ======      ======      =====


(12)  SEGMENT INFORMATION AND SIGNIFICANT CUSTOMERS

Prior to the Acquisition in June 2002, the Company operated predominantly in one
business segment, Storage Solutions.  Customers of the Storage Solutions segment
include end users, OEMs, SIs and VARs (Value Added Resellers).

Following the  Acquisition,  the Company began operating under a second business
segment, Telecommunication Solutions. Stonehouse offers telemanagement solutions
targeted to large corporations,  educational institutions, state governments and
other large public, private and hybrid communications networks.

Financial  instruments,  which potentially subject the Company to concentrations
of credit risk, are primarily accounts receivable.  The Company performs ongoing
credit  evaluations  of its  customers,  generally  requires no  collateral  and
maintains  allowances for potential credit losses and sales returns.  During the
year ended December 31, 2002,  sales to two customers  accounted for 42% and 13%
of the Company's Storage Solutions sales and sales to one customer accounted for
29% of  Telecommunication  Solutions  sales.  During the year ended December 31,
2001, sales to one customer accounted for 12% of the Company's Storage Solutions
sales.  During 2000,  no single  customer  accounted for greater than 10% of the
Company sales.

During 2002,  Storage  Solutions sales to geographic areas other than the United
States aggregated 19% of the Company's  Storage Solutions sales,  principally in
the Pacific Rim. Sales to geographic areas other than the United States were not
significant prior to 2002.

Presented  below for the year ended  December  31,  2002 is  selected  financial
information  for  the two  segments  in  which  the  Company  now  operates  (in
thousands).  The Storage Solutions  segment includes all corporate  revenues and
expenses  except  those  specifically   attributable  to  the  Telecommunication
Solutions  segment.  Since  the  Acquisition  occurred  in  June  2002,  segment
information is not applicable for the 2001 or 2000 periods.

                                               Storage      Telecommunication
                                              Solutions         Solutions (a)
                                              --------      ------------------
Total assets                                   $4,080             $10,102
Revenues                                       $7,917             $ 2,873
Gross margin                                   $1,382             $ 1,516
Net loss applicable to common stock           ($7,878)           ($   106)

(a) Includes results of operations for Stonehouse for the seven months since the
Acquisition in June 2002.


<PAGE> 59


(13)   COMMITMENTS AND CONTINGENCIES

Litigation

In June 1996, Jack Ehrenhuas, Mark Schindler, Eugene Stricker, Amnon Damty, Ehud
Mendelson  and Susan Felton filed a Complaint in the Supreme  Court of the State
of New York,  County of Nassau,  against the Company and Michael Wise,  its then
Chairman of the Board and  currently a director.  The  plaintiffs  claim to have
contractual  and  proprietary  interests  in the  prospect of a  transaction  to
purchase  certain  net assets  acquired  by the  Company  and seek  compensatory
damages plus punitive damages.

In August 1996, The Nais  Corporation,  Mark Schindler,  Eugene Stricker,  Amnon
Damty,  Ehud  Mendelson  and Susan  Felton  filed a Complaint  in the same Court
making  similar  allegations  against  a  subsidiary  of the  Company,  its then
president,  R. Daniel Smith (Mr. Smith),  and a company controlled by Mr. Smith.
In this action,  the plaintiffs seek compensatory  damages plus punitive damages
for alleged breach of contract.

Both cases are currently in discovery. Counsel for the Company believes that the
Company has good defenses to both claims and that it will not incur any material
liability.  The  Company is unaware of any facts that would  support  any of the
plaintiffs'  claims,  and accordingly,  the Company believes that the claims are
without merit.

In February  2002,  W. David  Sykes,  our former  Executive  Vice  President  of
Marketing  and  Sales,  filed a  complaint  in the  Circuit  Court of Palm Beach
County,  Florida,  against a subsidiary of the Company in which Mr. Sykes claims
he was wrongfully  terminated under provisions of his employment  agreement with
the Company.  The Company  believes it acted in accordance  with the termination
provisions  of the agreement  and that no further  compensation  or benefits are
due.  The Company  believes  that it has good  defenses to the claim and that it
will not incur any material liability.

Certain software  sublicensed to, and market by,  Stonehouse (the "Software") is
collateral  under a $12  million  sale/leaseback  agreement  between  PUSA and a
financial  institution,  consummated  prior to the Stonehouse  Acquisition.  The
obligations of PUSA under the sale/leaseback agreement, including the obligation
to pay $381,000 per month for three years through March 2004, are supported by a
surety  bond.  In  connection  with the  Stonehouse  Acquisition  (see Note 2 to
Consolidated  Financial  Statements),  Stonehouse  was  granted  an  irrevocable
perpetual  license to,  among other  items,  sub-license  the  Software to third
parties  and  install,  use,  modify,  copy or enhance  the  Software or prepare
derivative works from the Software,  for Stonehouse's own benefit or the benefit
of any third party. At the expiration of the sale/leaseback, PUSA is required to
purchase  the  Software  for $1 and has agreed to  complete  that  purchase  and
immediately  transfer all rights and title to Stonehouse.  PUSA also indemnified
Stonehouse  for certain  other  potential  obligations  and  breaches of certain
representations and warranties (the "Indemnifications").  In December 2002, PUSA
filed  Chapter 11  proceedings  in the United  States  Bankruptcy  Court for the
Northern  District of Texas.  In the  opinion of  management,  PUSA's  potential
inability to satisfy its  obligations  in  connection  with the Software and the
Indemnifications   will  not  result  in  the  Company  incurring  any  material
liability.

From time to time, the Company is subject to legal  proceedings and other claims
arising in the ordinary  course of business.  In the opinion of management,  the
Company  is not a party to any  litigation  the  outcome  of which  would have a
material adverse effect on its business, operations or cash flows.


(14)  PREFERRED STOCK
Series D

The Series D Convertible  Preferred  Stock accrued  dividends in 1999,  2000 and
2001 at 8% per annum, payable quarterly,  and was convertible into shares of the
Company's  common stock based on a fixed conversion price of $1.00 per share. On
February 1, 2000, 700 shares of the Series D Preferred Stock with a stated value
of $700,000 was converted  into 700,000  shares of the  Company's  common stock.
Pursuant to an automatic  conversion  feature,  effective  October 28, 2001, the
remaining  2,000 shares with a stated value of $2 million was  converted  into 2
million shares of the Company's common stock.


<PAGE> 60


Series E

In June 1999, the Company issued 3,500 shares of Series E Convertible  Preferred
Stock for $3.5  million in cash,  of which $1.5 million was in  satisfaction  of
borrowings from Mr. Levy. The Series E Preferred  Stock,  with a stated value of
$3.5  million as of  December  31,  2000,  accrued  quarterly  dividends  at the
following  annual rates: 8% during the first year, 9% during the second year and
10% thereafter.  The Series E Preferred Stock was convertible into shares of the
Company's  common stock based on a fixed conversion price of $3.00 per share. In
connection with the Halco  Investment,  on January 11, 2002, all of the Series E
Preferred  Stock was converted  into shares of the  Company's  common stock (see
Note 3 to Consolidated Financial Statements).

Series F

As part of the  acquisition  of Andataco in June 1999,  the Company issued 4,654
shares of Series F  Convertible  Preferred  Stock,  with a stated  value of $4.7
million,  which accrued  quarterly  dividends at the following  annual rates: 8%
during the first year, 9% during the second year and 10% thereafter.  The Series
F Preferred  Stock was  convertible  into the Company's  common stock based on a
fixed  conversion  price of $3.00 per share.  During 2001,  2000 and 1999,  722,
3,332 and 600 shares,  respectively,  representing all of the Series F Preferred
Stock, were converted into 240,533, 1,110,800 and 200,000 shares,  respectively,
of the Company's common stock.

Series G

Effective December 29, 2000, the Company satisfied $2 million of borrowings from
Mr.  Levy by issuing  2,000  shares of Series G Preferred  Stock,  with a stated
value of $2 million.  The Series G Preferred  Stock  accrued  dividends  at 10%,
payable quarterly,  and was redeemable at the Company's option.  Attached to the
Series G  Preferred  Stock  was a  warrant  to  purchase  500,000  shares of the
Company's common stock at $1.50 per share, exercisable from July 1, 2001 through
December 31, 2003 (the  "Warrant").  The Warrant provided that if any portion of
the Series G Preferred Stock was redeemed by the Company prior to June 30, 2001,
a corresponding  pro-rata  portion of the Warrant would be cancelled.  Effective
April 12, 2001, the Series G Preferred  Stock and accrued  dividends  thereon of
$57,000 were exchanged for Series I Convertible  Preferred Stock,  with a stated
value of $2,057,000, and the Warrant was cancelled.

Series H

Effective  April 12, 2001,  the Company  satisfied $5.1 million of borrowings by
issuing  5,100  shares of Series H  Convertible  Preferred  Stock.  The Series H
Preferred  Stock had a stated value of $5.1  million,  accrued  dividends at 10%
annum,  payable  quarterly,  and was  convertible  into shares of the  Company's
common stock based on a fixed  conversion price of $.72 per share. In connection
with the Halco  Investment,  on January 11, 2002,  all of the Series H Preferred
Stock was  converted  into shares of the  Company's  common stock (see Note 3 to
Consolidated Financial Statements).


<PAGE> 61


Series I

Effective  April 12,  2001,  the  Company  exchanged  $6,675,000  of  borrowings
(including  $3,550,000  from Mr. Levy),  $110,000 in accrued  interest,  and the
Series G  Preferred  Stock held by Mr.  Levy with a stated  value of  $2,057,000
(including accrued dividends) for 8,842 shares of Series I Convertible Preferred
Stock with a stated value of  $8,842,000.  On April 24, 2001, the Company issued
an additional 250 shares,  to a private  investor,  of Series I Preferred  Stock
with a stated  value of $250,000,  for $250,000 in cash.  The Series I Preferred
Stock had an aggregate  stated value of $9.1 million,  accrued  dividends at 10%
annum,  payable  quarterly,  and was  convertible  into shares of the  Company's
common stock based on a fixed  conversion price of $.72 per share. In connection
with the Halco  Investment,  on January 11, 2002,  all of the Series I Preferred
Stock was  converted  into shares of the  Company's  common stock (see Note 3 to
Consolidated Financial Statements).

Series K

On November 20, 2001,  the Company  issued 8,970 shares of Series K  Convertible
Preferred Stock to Halco as part of the Halco Investment for approximately  $2.9
million  in cash  and  $6.1  million  of  marketable  securities.  The  Series K
Preferred Stock had an aggregate stated value of $8,970,000, was not entitled to
receive  dividends and was convertible into shares of the Company's common stock
based on a fixed conversion price of $.23 per share. On January 11, 2002, all of
the Series K Preferred  Stock was converted into shares of the Company's  common
stock (see Note 3 to Consolidated Financial Statements).

Series L

In  connection  with the  Stonehouse  Acquisition  on June 7, 2002,  the Company
issued 1,000 shares of Series L Convertible  Preferred Stock with a stated value
of  $1,000,000.  The Series L Preferred  Stock was not entitled to dividends and
was convertible into 4,527,027 shares of the Company's common stock,  subject to
shareholder  approval.  Shareholder  approval was received  effective October 8,
2002 and the Series L Preferred Stock was converted into 4,527,027 shares of the
Company's common stock.

(15) STOCK OPTIONS AND WARRANTS

The Company  applies APB Opinion 25,  Accounting  for Stock Issued to Employees,
and related interpretations in accounting for options granted to employees under
its stock option plans. Under APB Opinion 25, if options are granted at exercise
prices less than fair market  value,  compensation  expense is recorded  for the
excess of the fair market values on the date of grant over the exercise price.

Under the Company's  1996 Stock Option Plan (the "1996 Plan"),  stock options to
purchase up to seven million shares of the Company's common stock were available
to be granted to officers,  directors, key employees and non-employees.  Options
granted under the 1996 Plan have a maximum term of ten years and generally  vest
over three years annually on an equal basis.

Effective  January 10, 2002, the Company's  shareholders  approved the Company's
2001 Stock Option Plan (the "2001 Plan"),  under which stock options to purchase
up to five  million  shares of the  Company's  common  stock may be issued for a
maximum  term of ten  years.  On October 8,  2002,  the  Company's  shareholders
approved  an  amendment  to the 2002 Plan to increase  the number of  authorized
shares from 5 million to 7.5  million.  In  connection  with the 2001 Plan,  the
Company ceased granting  options under the 1996 Plan and all shares reserved for
issuance  under the 1996 Plan that had not yet been issued were  cancelled.  The
terms of options  previously granted under the 1996 Plan continue to be governed
by the 1996  Plan and the  option  agreements  currently  in  effect  for  those
options.


<PAGE> 62


SFAS No. 123, Accounting for Stock-Based  Compensation,  requires the Company to
provide pro forma information  regarding net income and earnings per share as if
compensation  cost for stock options  granted had been  determined in accordance
with the fair  value  based  method  prescribed  in SFAS No.  123.  The  Company
estimates  the fair  value of each  stock  option at the grant date by using the
Black-Scholes   option-pricing   model  with  the   following   weighted-average
assumptions  used for grants:  no dividend yield;  expected lives of five years;
volatility  ranging from 87% to 95% for 2002,  90% to 111% for 2001,  and 96% to
107% for 2000; and risk-free  interest rates ranging from 2.7% to 4.5% for 2002,
3.1% to 3.8% for 2001, and 4.9% to 5.1% for 2000.

If the Company had elected to recognize  stock-based employee compensation costs
based on the fair value on the date of grant  consistent  with the provisions of
SFAS No. 123, net loss  available to common stock and basic and diluted net loss
per  common  share  would  have been  increased  to the  following  amounts  (in
thousands, except per share):
                                Years Ended December 31,
                            ------------------------------
                              2002       2001       2000
                            --------   --------   --------
   Net loss available
    to common stock:
     As reported            ($ 7,984)  ($18,518)  ($22,606)
     Pro forma              ($ 8,438)  ($19,414)  ($24,112)
   Basic and diluted net
    loss per common share:
     As reported               ($.07)     ($.41)     ($.69)
     Pro forma                 ($.07)     ($.43)     ($.73)


Changes in options outstanding are summarized as follows:

                                              Weighted-       Weighted-
                                               Average         Average
                                              Exercise      Fair Value Per
                                 Shares         Price     Share of Options
                             (in thousands)   Per Share        Granted
                             --------------  ----------  ----------------

Balance, December 31, 1999       4,623          $2.00
  Granted - equal to
    market value                 1,657           2.78            $2.08
  Granted - exceeded
    market value                   724           2.10            $1.36
  Forfeited                     (2,051)          1.91
  Exercised                       (404)          1.28
                                -------         -----
Balance, December 31, 2000       4,549           2.40

  Granted - exceeded
    market value                   200           1.10            $ .59
  Granted - equal to
    market value                   533            .69            $ .50
  Forfeited                     (2,411)          2.64
                                -------         -----
Balance, December 31, 2001       2,871           2.45

  Granted - exceeded
    market value                 5,719            .31            $ .16
  Granted - equal to
    market value                   230            .26            $ .19
  Forfeited                     (1,106)          1.83
                                -------         -----
Balance, December 31, 2002       7,714 (a)      $ .68
                                =======         =====


<PAGE> 63


----------
(a) Includes  1,825,000  shares under the 1996 Plan and 5,889,000 under the 2001
Plan

At  December  31,  2002,  2001 and 2000,  1,661,060,  1,906,915  and  1,371,000,
respectively,   of   the   outstanding   options   were   exercisable   with   a
weighted-average  exercise price of $1.83,  $1.89 and $2.29,  respectively,  per
share. The number of shares available to grant under the 2001 Plan was 1,611,000
as of December 31, 2002.

The following table summarizes information about fixed stock options at December
31, 2002:

                                                                     Weighted
                              Weighted                               Average
                  Number       Average     Weighted    Number        Exercise
               Outstanding    Remaining    Average   Exercisable     Price of
 Exercise      at Dec. 31,   Contractual   Exercise  at Dec. 31,    Exercisable
  Prices          2002           Life        Price       2002         Options
             (in thousands)                         (in thousands)
-----------   -----------   -----------   --------  -----------     ---------
$ .24-$1.00      6,399       9.50 years     $0.33         476          $0.55
$1.06-$2.00        548       7.58 years     $1.54         469          $1.48
$2.06-$2.69        402       4.81 years     $2.19         402          $2.19
$3.00-$3.00         20       6.34 years     $3.00          20          $3.00
$3.06-$4.94        345       5.29 years     $3.80         294          $3.87
                ------       ----------     -----      ------          -----
$ .24-$4.94      7,714       8.93 years     $0.68       1,661          $1.83
                ======       ==========     =====      ======          =====

At December 31, 2002, the Company had outstanding warrants under which 1,982,500
shares of common stock could be acquired. Information relating to these warrants
is summarized as follows:
                               Number of                 Warrant Price
                                 Shares            -------------------------
                             (in thousands)          Per Share      Total
                              -----------          ------------  -----------

Balance, December 31, 1999        1,950            $1.25-$3.30   $ 4,380,000


Warrants issued                     920            $1.50-$3.60     1,942,000
Warrants exercised                 (230)           $2.10-$3.00      (663,000)
Warrants expired                    (65)              $2.35         (153,000)
                               ----------          ------------  -----------
Balance, December 31, 2000        2,575            $1.25-$3.60     5,506,000

Warrants issued                   1,562            $ .45-$1.20     1,455,000
Warrants expired                   (333)              $1.25         (417,000)
Warrants canceled                  (500)              $1.50         (750,000)
                               ----------          -----------   -----------
Balance, December 31, 2001        3,304            $ .45-$3.60     5,794,000

Warrants expired                 (1,322)           $1.37-$3.30    (3,147,000)
                               ----------          -----------   -----------
Balance, December 31, 2002        1,982            $ .45-$3.60   $ 2,647,000
                               ==========          ===========   ===========


<PAGE> 64


                            Number of
                          Shares Subject
        Expiration         to Warrants        Exercise
           Date           (in thousands)        Price
        ----------        --------------      --------
      May 2003                  220              $3.60
      December 2003             200              $2.00
      March 2004                937              $1.20
      June 2004                 625          $.45-$.75
                             --------
                              1,982
                             ========

At December 31, 2002,  the Company had reserved  common stock for the  following
purposes (in thousands):

 1996 Plan:
  Options outstanding                        1,825
  Options available to grant                     -
                                          -----------
   Total under 1996 Plan                     1,825
                                          -----------
 2001 Plan:
  Options outstanding                        5,889
  Options available to grant                 1,611
                                          -----------
   Total under 2001 Plan                     7,500
                                          -----------
   Total shares reserved under options       9,325
                                          -----------
 Warrants outstanding                        1,982
                                          -----------
   Total shares reserved under options
   and warrant reserved                     11,307
                                          ===========


(16)  RELATED PARTY TRANSACTIONS

     H. Irwin Levy

See Notes 6, 8 and 14 to  Consolidated  Financial  Statements  for a  discussion
of  transactions involving Mr. Levy.

In addition, commencing in October 1999, the Company has been charged $5,000 per
month,  plus  reimbursement  of  out-of-pocket  expenses,  by Hilcoast  Advisory
Services,  Inc.  ("Advisor") for certain financial consulting and administrative
services provided to the Company.  Mr. Levy is the Chairman of the Board,  Chief
Executive  Officer and a majority  shareholder  of  Advisor's  parent,  and Jack
Jaiven,  the Company's Vice  President and Treasurer,  is an officer of Advisor.
Management  believes that the terms of this  agreement were no less favorable to
the Company than those that would be received from other sources.

     Maurice Halperin

See Notes 3, 6, 8 and 14 to Consolidated  Financial  Statements for a discussion
of  transactions involving Mr. Halperin.

     Executive Management

Effective June 22, 2001, the Company and Larry Hemmerich ("Mr. Hemmerich"),  the
Company's  former  President  and  Chief  Executive  Officer,   entered  into  a
Separation Agreement in which Mr. Hemmerich's  employment ceased and he became a
consultant to the Company through December 31, 2001.  Pursuant to the Separation
Agreement,  previously  granted  options  to  purchase  1,250,000  shares of the
Company's  common stock were  terminated and replaced with an option to purchase
300,000  shares of common  stock at $.45 per  share.  The  option  was valued at
$90,000  based  on the  Black-Scholes  option-pricing  model  as of the  date of
issuance  and was expensed as  compensation  over the six month period for which
Mr. Hemmerich was a consultant to the Company.


<PAGE> 65


In connection with Mr.  Hemmerich's 2000 bonus, on January 17, 2001, the Company
issued  a  $125,000,  10%  note to Mr.  Hemmerich,  payable  on June  30,  2001.
Effective  April 12, 2001,  Mr.  Hemmerich  exchanged  this note,  including the
accrued interest,  for Series I Convertible  Preferred Stock with a stated value
of $128,000,  convertible  into shares of the Company's  common stock based on a
fixed conversion price of $.72 per share. Effective with the Halco Investment in
November 2001, the Series I Convertible  Preferred  Stock held by Mr.  Hemmerich
and all accrued  dividends  thereon were  converted to 305,585  shares of common
stock, including 106,594 Inducement Shares and 21,338 Dividend Shares (see Notes
3 and 14 to Consolidated Financial Statements).

Mr. Hemmerich served as a director of the Company until March 2002.


(17)  LEASES

The Company leases its operating facilities under operating leases, which expire
at various dates through May 2006. At December 31, 2002,  future  minimum rental
payments under  operating  leases that have initial or remaining terms in excess
of one year are as follows (in thousands):

               2003          $242
               2004           243
               2005           198
               2006            19
                             ----
                             $702
                             ====

Rent expense was  $527,000,  $831,000 and $871,000  during 2002,  2001 and 2000,
respectively.


(18)  401(k) PLAN

The  Company's  401(k) Tax  Deferred  Savings Plan (the  "401(k)  Plan")  covers
substantially   all   employees   meeting   certain   minimum  age  and  service
requirements.  Company  contributions to the plan are determined by the Board of
Directors.  The  Company  has made no  contributions  to the  401(k)  Plan as of
December 31, 2002.


(19)  FOURTH QUARTER ADJUSTMENTS

During the fourth  quarter of 2001,  the Company  recorded a write-down  of $2.5
million resulting from a valuation of certain inventory, which included obsolete
inventory and components associated with products,  which the Company has phased
out.  Management was unable to reasonably  estimate the effect, if any, of these
adjustments on prior quarters in 2001.

During the fourth quarter of 2000, the Company recorded an impairment adjustment
to  unamortized  goodwill of $12 million (see Note 1 to  Consolidated  Financial
Statements).  The Company also recorded a write-down  of $1.4 million  resulting
from a valuation of certain  inventory,  which included  obsolete  inventory and
components  associated  with  products,   which  the  Company  had  phased  out.
Management  was unable to  reasonably  estimate  the  effect,  if any,  of these
adjustments on prior quarters in 2000.


<PAGE> 66


(20)  QUARTERLY RESULTS OF OPERATIONS (Unaudited)

The  following  is a summary of the  quarterly  operations  for the years  ended
December 31, 2002 and 2001 (in thousands).

2002                               Mar. 31     Jun. 30     Sept. 30      Dec. 31
----                             ----------  ---------    ----------   ---------

Sales                               $1,559      $2,451      $3,494      $3,286
Gross profit (loss)                   (116)        100       1,410       1,504

Loss from operations                (2,626)     (2,015)     (1,295)       (973)
Net loss                            (4,802)     (1,806)       (600)       (776)
Net loss available
  to common stock                   (4,802)     (1,806)       (600)       (776)
Net loss per common share:
  Basic and diluted                  ($.04)      ($.01)      ($.00)      ($.01)

2001 (a)

Sales                               $6,218      $3,953      $4,016      $3,699
Gross profit (loss)                  1,713         903       1,399      (1,966)

Loss from operations                (3,157)     (3,165)     (2,171)     (5,013)
Net loss                            (3,445)     (3,880)     (1,179)     (5,454)
Net loss available
  to common stock                   (3,630)     (4,324)     (1,665)     (8,899)
Net loss per common share:
  Basic and diluted                  ($.10)      ($.12)      ($.05)      ($.12)
----------
(a) See Note 19 regarding Fourth Quarter Adjustments.


(21)  SUBSEQUENT EVENTS

Subsequent to December 31, 2002 and through March 14, 2003, the Company received
$1,582,000 in borrowings under promissory notes, consisting of $882,000 from Mr.
Levy and $700,000  from Mr.  Marden.  Included in these  borrowings  is $900,000
under convertible promissory notes ($200,000 from Mr. Levy and $700,000 from Mr.
Marden)  under  which the  outstanding  principal  and any  accrued  but  unpaid
interest  is  convertible  into  shares  of  the  Company's  common  stock  at a
conversion  price of $.29 per share  based on the  closing  market  price of the
Company's common stock on the date of the notes.

In connection with  borrowings  from Mr. Marden,  the Company issued warrants to
purchase  125,000  shares  of the  Company's  common  stock at $.25  per  share,
exercisable  immediately and expiring  December 31, 2005. The Company expects to
value the warrants under the Black-Scholes  option-pricing  model, to record the
fair value as a discount to the note and to recognize  any  potentially  related
beneficial conversion features.

Effective  March 14, 2003, the Company  received a commitment from three private
investors to loan the Company an aggregate  of $1.5  million  under  convertible
promissory  notes (the "New  Convertible  Notes")  including $1 million from Mr.
Marden.  The New  Convertible  Notes as well as the $1.2 million of  outstanding
principal and accrued interest under Mr. Marden's  existing notes (including the
$700,000  discussed  above)  will (i) bear  interest  at 8% per  annum,  payable
quarterly,  (ii) mature April 1, 2004,  (iii) be  convertible  into newly issued
shares  of  the  Company's   common  stock  at  $.30  per  share,  and  (iv)  be
collateralized  principally  by nStor's  ownership  interest in  Stonehouse  and
nStor's intellectual property and other intangible assets.


<PAGE> 67


In February 2003,  Stonehouse hired a new executive  officer under an employment
arrangement  whereby  Stonehouse  may issue options to this officer to acquire a
minority equity interest in Stonehouse.


<PAGE> 68


               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS




To the Board of Directors of
  nStor Technologies, Inc.



The audit  referred to in our report  dated  February  28, 2003  relating to the
consolidated  financial  statements  of  nStor  Technologies,  Inc.,  which  are
contained in Item 8 of this Form 10-K  included  the audits of the  consolidated
financial statement schedules listed in the accompanying index. The consolidated
financial   statement   schedules  are  the   responsibility  of  the  Company's
management.  Our  responsibility is to express an opinion on these  consolidated
financial statement schedules based upon our audits.

In our opinion, such consolidated  financial statement schedules present fairly,
in all material respects, the information set forth therein.

The aforementioned consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company has significant recurring losses,
negative working capital and serious liquidity  concerns.  These matters,  among
others,  raise  substantial  doubt about the Company's  ability to continue as a
going concern.  Management's plans in regard to these matters are also described
in  Note  1  to  the  aforementioned   consolidated  financial  statements.  The
aforementioned  consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.

The  consolidated   financial   statements  of  nStor  Technologies,   Inc.  and
subsidiaries as of December 31, 2000 were audited by other auditors whose report
dated February 9, 2001 on those  statements  included an  explanatory  paragraph
describing  conditions that raise  substantial doubt about the Company's ability
to continue as a going concern.


                                                 /s/ Swenson Advisors, LLP
                                                     Swenson Advisors, LLP



San Diego, California
March 14, 2003


<PAGE> 69


               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS




To the Board of Directors of
  nStor Technologies, Inc.



The audits  referred to in our report  dated  February  9, 2001  relating to the
consolidated  financial  statements  of  nStor  Technologies,  Inc.,  which  are
contained  in Item 8 of this  Form  10-K  included  the  audit of the year  2000
consolidated  financial statement schedule listed in the accompanying index. The
consolidated financial statement schedule is the responsibility of the Company's
management.  Our  responsibility  is to express an opinion on this  consolidated
financial statement schedule based upon our audit.

In our opinion, such consolidated  financial statement schedule presents fairly,
in all material respects, the information set forth therein.

The aforementioned consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated   financial  statements,   the  Company  has  suffered  substantial
recurring  losses  from  operations,   has  a  working  capital  deficiency,   a
shareholders'  deficit and is in default  under its  existing  credit  facility.
These matters, among others, raise substantial doubt about the Company's ability
to continue as a going  concern.  Management's  plans in regard to these matters
are  also  described  in  Note 1 to the  aforementioned  consolidated  financial
statements. The aforementioned  consolidated financial statements do not include
any adjustments that might result from the outcome of this uncertainty.


                                                    /s/ BDO SEIDMAN, LLP
                                                        BDO SEIDMAN, LLP



Costa Mesa, California
February 9, 2001


<PAGE> 70


                            nSTOR TECHNOLOGIES, INC.
            Schedule I--Condensed Financial Information of Registrant
                  Fiscal Years Ended December 31, 2002 and 2001

The following  represents the condensed  unconsolidated  balance sheet for nStor
Technologies,  Inc.  as of  December  31,  2002  and  2001,  and  the  condensed
unconsolidated  statements  of  operations  and cash  flows for the years  ended
December 31, 2002 and 2001.

                     CONDENSED UNCONSOLIDATED BALANCE SHEETS
                                 (in thousands)

                                                                December 31,
ASSETS                                                      2002          2001
------                                                    -------       -------
Current assets:
  Cash and cash equivalents                               $     3       $   399
  Marketable securities                                         -         4,255
                                                          -------       -------
Total current assets                                            3         4,654

Investments in and receivables from
  subsidiaries                                              8,772           384
                                                          -------       -------
                                                          $ 8,775       $ 5,038
                                                          =======       =======


LIABILITIES
-----------
Current liabilities:
   Borrowings                                             $ 3,584       $     -
   Accounts payable and other                                 471           951
                                                          -------       -------
Total current liabilities                                   4,055           951
Long-term debt                                              3,100         3,600
                                                          -------       -------
        Total liabilities                                   7,155         4,551
                                                          -------       -------

SHAREHOLDERS' EQUITY
--------------------
Preferred stock, $.01 par; 1,000,000 shares
 authorized; 0 shares assumed issued
 and outstanding at December 31, 2002 and 2001
Common stock, $.05 par; 230,000,000 shares
 authorized; 142,076,947 and 114,603,144 shares
 assumed issued and outstanding at December 31,
 2002 and December 31, 2001, respectively                   7,103         5,729
Additional paid-in capital                                101,847        94,104
Deficit                                                  (107,330)      (99,346)
                                                          -------       -------
         Total shareholders' equity                         1,620           487
                                                          -------       -------
                                                          $ 8,775       $ 5,038
                                                          =======       =======


<PAGE>71


                            nSTOR TECHNOLOGIES, INC.
            Schedule I--Condensed Financial Information of Registrant
                CONDENSED UNCONSOLIDATED STATEMENTS OF OPERATIONS
                                 (in thousands)


                                                              Years Ended
                                                              December 31,
                                                          2002           2001
                                                       ---------      ---------
Loss from investment in subsidiaries                   ($ 6,336)      ($11,929)
Realized and unrealized losses on
  marketable securities, net                             (1,123)          (811)
Fair value of option granted to customer                   (600)             -
Other income (losses), net                                  580           (362)
Interest expense                                           (407)          (642)
Selling, general and administrative expense                 (98)          (214)
                                                       ---------      ---------

Loss before preferred dividends and induced
  conversion                                             (7,984)       (13,958)

Preferred stock dividends                                     -         (1,560)

Induced conversion of convertible
  preferred stock                                             -         (3,000)
                                                       ---------      ---------
Loss available to common stock                         ($ 7,984)      ($18,518)
                                                       =========      =========


<PAGE> 72


                            nSTOR TECHNOLOGIES, INC.
            Schedule I--Condensed Financial Information of Registrant
                CONDENSED UNCONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (in thousands)

                                                               Years Ended
                                                               December 31,
                                                             2002         2001
CASH FLOWS FROM OPERATING ACTIVITIES:                     ---------    ---------

  Net loss                                                ($ 7,984)    ($13,958)
  Adjustments to reconcile net loss to
    net cash used by operating activities:
      Proceeds from sales of marketable securities           3,132        1,047
      Realized and unrealized losses on
       marketable securities                                 1,123          811
      Fair value option granted to customer                    600            -
      Other (income) losses, net                              (578)         362
      Amortization of deferred loan costs                        -          190
      Amortization of deferred compensation costs                -           90
      Changes in assets and liabilities, net of
       effects from acquisition:
        (Increase) decrease in receivables from
          subsidiaries                                         (10)         307
        Increase in accounts payable and other
          liabilities                                          237          231
                                                          ---------    ---------
Net cash used by operating activities                       (3,480)     (10,920)
                                                          ---------    ---------

CASH FLOWS FROM FINANCING ACTIVITIES:

  Proceeds from borrowings                                   3,084       10,149
  Issuance of convertible preferred stock,
   net of costs                                                  -        1,221
  Cash paid for preferred stock dividends                        -          (59)
                                                          ---------    ---------
Net cash provided by financing activities                    3,084       11,311
                                                          ---------    ---------
Net (decrease) increase in cash and cash equivalents
  during the year                                             (396)         391
Cash and cash equivalents at beginning of year                 399            8
                                                          ---------    ---------
Cash and cash equivalents at end of year                   $     3     $    399
                                                          =========    =========


<PAGE> 73


                            nSTOR TECHNOLOGIES, INC.
                 Schedule II-- Valuation and Qualifying Accounts
               Fiscal Years Ended December 31, 2002, 2001 and 2000
                                 (in thousands)



                                                 Additions
                          Balance                Resulting               Balance
                             at      Additions     from                     at
                         Beginning    Charged     Merger/                 End of
                          of Year    to Income     Other    Deductions*    Year
                         ---------   ---------   ---------  ----------   -------

Allowance for Doubtful
 Accounts Receivable:
  2002                     $  209     $  210      $  100      $   62      $  457
  2001                        402      1,069         200      (1,462)        209
  2000                      1,604        912           -      (2,114)        402


Allowance for Inventory
 Obsolescence:
  2002                     $4,345     $ (239)     $          ($3,525)     $  581
  2001                      4,902      2,500      $   -       (3,057)      4,345
  2000                      3,419      3,988          -       (2,505)      4,902



---------
*  Deductions  represent  amounts  written  off against  the  allowance,  net of
recoveries


<PAGE> 74


Item 9.   Disagreement on Accounting and Financial Disclosure

Not Applicable


                                    PART III

Item 10.  Directors and Executive Officers of the Registrant

For information  concerning this item, see the text under the captions "Election
of Directors" and  "Management"  in our definitive  Proxy  Statement (the "Proxy
Statement") to be filed with respect to our 2003 Annual Meeting of Stockholders,
which information is incorporated herein by reference.


Item 11.  Executive Compensation

For information  concerning this item, see the text and tables under the caption
"Executive  Compensation",  "Report  on  Compensation"  and the graph  under the
caption  "Performance  Graph"  in the  Proxy  Statement,  which  information  is
incorporated herein by reference.


Item 12.  Security Ownership of Certain Beneficial Owners and Management

For information concerning this item, see the tables and text under the captions
"Security  Ownership",  "Management" and Equity Compensation Plan Information in
the Proxy Statement, which information is incorporated herein by reference.


Item 13.  Certain Relationships and Related Transactions

For information  concerning  this item, see the text under the caption  "Certain
Transactions" in the Proxy Statement,  which information is incorporated  herein
by reference.


Item 14.  Disclosure Controls

(a) Within 90 days  prior to filing  this  report on Form 10-K (the  "Evaluation
Date"),  our Chief Financial  Officer and Chief Executive  Officer evaluated our
disclosure  controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c)
promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")).  Based on that evaluation,  these officers have concluded that as of the
Evaluation Date, our disclosure controls and procedures were effective in timely
alerting them to material information relating to us (including our consolidated
subsidiaries)  required to be included in our reports  filed or  submitted by us
under the  Exchange  Act.  It should be noted  that the  design of any system of
controls  is  based  in part  upon  certain  assumptions,  and  there  can be no
assurance that any design will succeed in achieving its stated goals.

(b) There have been no significant  changes in our internal controls or in other
factors that could significantly affect internal controls subsequent to the time
of such evaluation.


<PAGE> 75


                                     PART IV


Item 15.  Exhibits, Financial Statement Schedules and
          Reports on Form 8-K

(a)  (1)       Financial  Statements - See index to  Consolidated  Financial
               Statements at page 31 of this Form 10-K.

     (2)       Financial Statement Schedule I - Condensed  Financial Information
               of Registrant - See pages 70-72 of this Form 10K.

     (3)       Financial Statement Schedule II-Valuation and Qualifying Accounts
               - See page 73 of this Form 10-K.

     (4)       Exhibits  - See Exhibit Index at pages 75-79 of this Form 10-K.

     (5)       Certifications - See pages 81-82 of this Form 10-K.

(b) No reports were filed by the Registrant during the fourth quarter of 2002.



                                  EXHIBIT INDEX
Exhibit
Number                             Description


2.1. Stock Purchase  Agreement  dated June 7, 2002 by and among the  Registrant,
Pacific USA Holdings  Corp.,  Pacific  Technology  Group,  Inc.  and  Stonehouse
Technologies, Inc. (4)

3.1  Certificate of Amendment to the Restated  Certificate of  Incorporation  of
Registrant filed with the State of Delaware on October 9, 2002 (2)

3.2  Certificate  Eliminating  Reference  to Series of Shares of Stock  from the
Restated Certificate of Incorporation of Registrant filed October 9, 2002 (2)

3.3 Restated  Certificate of Incorporation of Registrant filed with the State of
Delaware on October 9, 2002 (2)

3.4 Restated Bylaws of Registrant (14)

4.1 8%  Convertible  Promissory  Note for  $700,000,  dated  February  19, 2003,
between Registrant and Bernard Marden (1)

4.2 8%  Convertible  Promissory  Note for  $200,000,  dated  February  19, 2003,
between Registrant and H. Irwin Levy (1)

4.3 Form of Warrant to purchase common stock issued to Bernard Marden on January
6, 2003,  January 29, 2003 and March 6, 2003 as to 40,000 shares,  60,000 shares
and 25,000 shares, respectively (1)

4.4 Certificate of Designation of Series L Convertible Preferred Stock (4)

4.5 Stockholders'  Agreement dated June 7, 2002 by and among the Registrant,  H.
Irwin Levy, Hilcoast  Development Corp., MLL Corp.,  Maurice A. Halperin,  Halco
Investments, L.C. and Pacific Technology Group, Inc. (4)

4.6  Registration  Rights  Agreement  dated June 7, 2002 between  Registrant and
Pacific Technology Group, Inc. (4)


<PAGE> 76


4.7 8% Convertible  Subordinated  Promissory Note for $3,100,000,  dated June 7,
2002, between Registrant and Halco Investments, L.C. (4)

4.8 Option  Agreement  to purchase up to thirty  million  shares of common stock
granted to Pacific Technology Services, Inc., dated March 1, 2002 (8)

4.9 Certificate of Designation of Series K Convertible Preferred Stock (9)

4.10  Registration  Rights  Agreement  dated  November  20, 2001 issued to Halco
Investments L.C. (9)

4.11 Warrant to purchase  common  stock  issued to H. Irwin Levy,  dated May 16,
2001 (11)

4.12 Warrant to purchase  common  stock  issued to H. Irwin Levy,  dated May 21,
2001 (11)

4.13 Warrant to purchase  common  stock  issued to H. Irwin Levy,  dated May 30,
2001 (11)

4.14 Warrant to purchase  common  stock  issued to H. Irwin Levy,  dated June 5,
2001 (11)

4.15 Warrant to purchase common stock issued to The Charlotte Marden 1993 Trust,
dated June 7, 2001 (11)

4.16 Form of Warrant, between Registrant and certain private investors (12)

4.17 Form of  Subscription  Agreement,  between  Registrant and certain  private
investors (12)

4.18 Form of  Registration  Rights  Agreement,  between  Registrant  and certain
private investors (12)

4.19 Warrant to purchase 200,000 shares of common stock issued to H. Irwin Levy,
dated December 29, 2000 (12)

4.20 Certificate of Designation of Series G Preferred Stock (12)

4.21 Warrant to purchase common stock issued to  Wishmasters,  dated May 9, 2000
(13)

4.22 Warrant to purchase common stock issued to Ladenburg Thalmann, dated May 9,
2000 (13)

4.23 Restated Certificate of Incorporation of Registrant - see Exhibit 3.3

4.24 By-Laws of Registrant, as amended - see Exhibit 3.4

10.1 Amended and Restated Stock Pledge Agreement between Registrant and H. Irwin
Levy and Bernard  Marden in connection  with 8%  Convertible  Promissory  Notes,
dated February 19, 2003 (1)

10.2 10% Promissory Note for $500,000, dated January 6, 2003, between Registrant
and Bernard Marden (1)

10.3  Promissory Note for $560,000,  dated December 30, 2002 between  Registrant
and Cenvill Recreation, Inc. (1)


<PAGE> 77


10.4 Promissory Note for $100,000  between  Registrant and Hilcoast  Development
Corp., dated December 12, 2002 (1)

10.5 Letter Agreement,  dated December 15, 2002,  extending the maturity date to
March 15, 2003 of a $450,000 note between  Registrant  and The Charlotte  Marden
1993 Trust (1)

10.6 Letter Agreement,  dated December 31, 2002,  extending the maturity date to
June 30, 2003 for certain  notes  between  Registrant  and Hilcoast  Development
Corp. (1)

10.7 Working  Capital  Assurance  Agreement  dated June 7, 2002,  by and between
Registrant and Hilcoast Development Corp. (4)

10.8  Employment  Agreement  dated  June 7,  2002,  between  John E.  Gates  and
Stonehouse (4)

10.9  Form of  Agreement  between  Registrant  and  Hilcoast  Development  Corp.
regarding the purchase and option of certain shares of stock (7)

10.10 Promissory Note for $500,000,  between Registrant and Hilcoast Development
Corp. dated July 31, 2002 (1)

10.11 Promissory Note for $750,000 between  Registrant and Hilcoast  Development
Corp., dated June 14, 2002 (3)

10.12 Promissory Note for $500,000 between  Registrant and Hilcoast  Development
Corp., dated May 18, 2002 (3)

10.13 Convertible  Promissory Note for $650,000 between  Registrant and H. Irwin
Levy, dated June 14, 2002 (3)

10.14 Promissory Note dated April 30, 2002 for $750,000  between  Registrant and
Hilcoast Development Corp. (5)

10.15 Letter  Agreement,  dated March 25, 2002,  extending  the maturity date to
December 15, 2002, of certain notes, which are between nStor  Corporation,  Inc.
and H. Irwin Levy (8)

10.16 Letter  Agreement,  dated March 25, 2002,  extending  the maturity date to
December 15, 2002,  of a note that is between  nStor  Corporation,  Inc. and The
Charlotte Marden 1993 Trust (8)

10.17  Promissory Note for  $3,100,000,  dated November 20, 2001 issued to Halco
Investments L.C. (9)

10.18  Preferred  Stock Purchase  Agreement,  dated  November 20, 2001,  between
Registrant, Maurice A. Halperin and Halco Investments, L.C. (9)

10.19 10%  Subordinated  Promissory  Note for  $150,000,  dated  August 7, 2001,
between nStor Corporation, Inc. and H. Irwin Levy (10)

10.20 10% Subordinated  Promissory Note for $200,000,  dated September 25, 2001,
between nStor Corporation, Inc. and H. Irwin Levy (10)

10.21  8%  Promissory  Note for  $2,100,000,  dated  August  14,  2001,  between
Registrant and Halco Investments, L.C. (10)

10.22 8% Revolving  Credit Note for $1,000,000,  dated August 14, 2001,  between
Registrant and Halco Investments, L.C. (10)

10.23 8% Promissory  Note for  $1,275,000,  dated  September  10, 2001,  between
Registrant and Halco Investments, L.C. (10)


<PAGE> 78


10.24  8%  Promissory  Note  for  $332,442,  dated  October  29,  2001,  between
Registrant and Halco Investments, L.C. (10)

10.25 Letter  Agreement,  dated August 31, 2001,  extending the maturity date to
December 31, 2001, of certain notes, which are between nStor  Corporation,  Inc.
and H. Irwin Levy (10)

10.26 Letter  Agreement,  dated August 31, 2001,  extending the maturity date to
December 31, 2001,  of a note that is between  nStor  Corporation,  Inc. and The
Charlotte Marden 1993 Trust (10)

10.27  Subordinated  Promissory Note for $100,000,  dated May 16, 2001,  between
nStor Corporation, Inc. and H. Irwin Levy (11)

10.28  Subordinated  Promissory Note for $250,000,  dated May 21, 2001,  between
nStor Corporation, Inc. and H. Irwin Levy (11)

10.29  Subordinated  Promissory Note for $375,000,  dated May 30, 2001,  between
nStor Corporation, Inc. and H. Irwin Levy (11)

10.30  Subordinated  Promissory  Note for $75,000,  dated June 5, 2001,  between
nStor Corporation, Inc. and H. Irwin Levy (11)

10.31  Subordinated  Promissory Note for $450,000,  dated June 7, 2001,  between
nStor Corporation, Inc. and The Charlotte Marden 1993 Trust (11)

10.32  Subordinated  Promissory Note for $300,000,  dated July 12, 2001, between
nStor Corporation, Inc. and H. Irwin Levy (11)

10.33 Letter  Agreement,  dated June 29, 2001,  extending  the maturity  date to
August 31, 2001, of certain notes, which are between nStor Corporation, Inc. and
H. Irwin Levy (11)

10.34 Letter  Agreement,  dated June 29, 2001,  extending  the maturity  date to
August 31, 2001,  of a note,  that is between  nStor  Corporation,  Inc. and The
Charlotte Marden 1993 Trust (11)

10.35 Form of 8% Convertible  Subordinated  Promissory Note,  between Registrant
and certain private investors (12)

10.36 Promissory Note for $600,000,  dated January 16, 2001,  between Registrant
and H. Irwin Levy (12)

10.37 Promissory Note for $125,000,  dated January 17, 2001,  between Registrant
and Larry Hemmerich (12)

10.38 2001 Stock Option Plan (6)

10.39 1996 Stock Option Plan, dated October 5, 1996 (14)

10.40 Amendment to Registrant's 1996 Stock Option Plan (15)

11  Statement  Regarding  Computation  of Per Share  Earnings for the Year Ended
December 31, 2002 (1)

21 Subsidiaries of Registrant (1)

23.1 Consent of Independent  Accountants dated March 28, 2003, signed by Swenson
Advisors, LLP (1)


<PAGE> 79


23.2 Consent of Independent  Certified Public  Accountants dated March 24, 2003,
signed by BDO Seidman, LLP (1)

99.1  Certification  Pursuant to 18 U.S.C.  Section 1350, As Adopted Pursuant to
Section 906 of the  Sarbanes-Oxley  Act of 2002,  signed by  Registrant's  Chief
Executive Officer, H. Irwin Levy (furnished herewith)

99.2  Certification  Pursuant to 18 U.S.C.  Section 1350, As Adopted Pursuant to
Section 906 of the  Sarbanes-Oxley  Act of 2002,  signed by  Registrant's  Chief
Financial Officer, Thomas L. Gruber (furnished herewith)

--------------
1) Filed herewith.

2) Incorporated by reference to Exhibits previously filed with Registrant's Form
   10-Q for the quarter ended September 30, 2002, filed November 13, 2002.

3) Incorporated by reference to Exhibits previously filed with Registrant's Form
   10-Q for the quarter ended June 30, 2002, filed August 14, 2002.

4) Incorporated by reference to Exhibits previously filed with Registrant's Form
   8-K, filed June 21, 2002.

5) Incorporated by reference to Exhibits previously filed with Registrant's Form
   10-Q for the quarter ended March 31, 2002, filed May 15, 2002.

6) Incorporated by reference to Exhibits  previously filed with Registrant's S-8
   Registration Statement, filed April 26, 2002.

7) Incorporated by reference to Exhibits previously filed with Registrant's Form
   8-K, filed April 12, 2002.

8) Incorporated by reference to Exhibits previously filed with Registrant's Form
   10-K for the year ended December 31, 2001, filed April 8, 2002.

9) Incorporated by reference to Exhibits previously filed with Registrant's Form
   8-K dated November 20, 2001 and filed November 28,2001.

10)Incorporated  by reference  to Exhibits  previously  filed with  Registrant's
   Form 10-Q for the quarter ended September 30, 2001, filed November 9, 2001.

11)Incorporated  by reference  to Exhibits  previously  filed with  Registrant's
   Form 10-Q for the quarter ended June 30, 2001, filed August 17, 2001.

12)Incorporated  by reference  to Exhibits  previously  filed with  Registrant's
   Form 10-K for year ended December 31, 2000, filed April 17, 2001.

13)Incorporated  by reference  to Exhibits  previously  filed with  Registrant's
   Form S-3 Registration Statement, filed June 7, 2000.

14)Incorporated  by reference  to Exhibits  previously  filed with  Registrant's
   Form 10-K for the year ended October 31, 1996, filed January 28, 1997.

15)Incorporated  by reference  to Exhibits  previously  filed with  Registrant's
   Form S-8 dated January 6, 2000, filed January 10, 2000.


<PAGE> 80


                                   SIGNATURES


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


                             nSTOR TECHNOLOGIES, INC.

                              /s/ Thomas L. Gruber
March 21, 2003           By:_______________________________________
                             Acting President, Chief Operating
                             and Financial Officer




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


________, 2003        _____________________________________________
                      Maurice A. Halperin, Chairman of the Board


                           /s/ H. Irwin Levy
March 21, 2003        _____________________________________________
                      H. Irwin Levy, Vice Chairman of the Board and
                             Chief Executive Officer


                           /s/ Stanley Brenner
March 25, 2003        _____________________________________________
                      Stanley Brenner, Director


                           /s/ Roger H. Felberbaum
March 24, 2003        _____________________________________________
                      Roger H. Felberbaum, Director


                           /s/ Bernard R. Green
March 21, 2003        _____________________________________________
                      Bernard Green, Director


                           /s/ Jack Jaiven
March 21, 2003        _____________________________________________
                      Jack Jaiven, Vice President and Treasurer


                           /s/ Michael L. Wise
March 24, 2003        _____________________________________________
                      Michael L. Wise, Director


<PAGE> 81


                                 CERTIFICATIONS

I, H. Irwin Levy, certify that:

1.         I  have   reviewed   this  annual   report  on  Form  10-K  of  nStor
           Technologies, Inc.;

2.         Based on my knowledge, this annual report does not contain any untrue
           statement  of a  material  fact  or omit to  state  a  material  fact
           necessary to make the statements made, in light of the  circumstances
           under which such statements were made, not misleading with respect to
           the period covered by this annual report;

3.         Based on my knowledge, the financial statements,  and other financial
           information  included in this annual  report,  fairly  present in all
           material respects the financial condition,  results of operations and
           cash flows of the registrant as of, and for, the periods presented in
           this annual report;

4.         The registrant's other certifying  officers and I are responsible for
           establishing and maintaining  disclosure  controls and procedures (as
           defined in Exchange Act Rules  13a-14 and 15d-14) for the  registrant
           and we have:

               a) designed  such  disclosure  controls and  procedures to ensure
               that material information  relating to the registrant,  including
               its  consolidated  subsidiaries,  is made  known to us by  others
               within those  entities,  particularly  during the period in which
               this annual report is being prepared;

               b) evaluated the  effectiveness  of the  registrant's  disclosure
               controls and  procedures as of a date within 90 days prior to the
               filing date of this annual report (the "Evaluation Date"); and

               c)  presented  in this annual  report our  conclusions  about the
               effectiveness of the disclosure  controls and procedures based on
               our evaluation as of the Evaluation Date;

5.         The  registrant's  other  certifying  officers and I have  disclosed,
           based on our most recent evaluation, to the registrant's auditors and
           the audit  committee of  registrant's  board of directors (or persons
           performing the equivalent function):

               a) all  significant  deficiencies  in the design or  operation of
               internal  controls which could adversely  affect the registrant's
               ability to record,  process,  summarize and report financial data
               and have  identified for the  registrant's  auditors any material
               weaknesses in internal controls; and

               b) any fraud,  whether or not material,  that involves management
               or  other   employees  who  have  a   significant   role  in  the
               registrant's internal controls; and

6.         The registrant's  other  certifying  officers and I have indicated in
           this annual report whether or not there were  significant  changes in
           internal controls or in other factors that could significantly affect
           internal  controls   subsequent  to  the  date  of  our  most  recent
           evaluation,   including  any   corrective   actions  with  regard  to
           significant deficiencies and material weaknesses.

Date: March 20, 2003
                                   /s/ H. Irwin Levy
                                  ------------------------
                                  H. Irwin Levy
                                  Chief Executive Officer


<PAGE> 82


                                 CERTIFICATIONS

I, Thomas L. Gruber, certify that:

1.         I  have   reviewed   this  annual   report  on  Form  10-K  of  nStor
           Technologies, Inc.;

2.         Based on my knowledge, this annual report does not contain any untrue
           statement  of a  material  fact  or omit to  state  a  material  fact
           necessary to make the statements made, in light of the  circumstances
           under which such statements were made, not misleading with respect to
           the period covered by this annual report;

3.         Based on my knowledge, the financial statements,  and other financial
           information  included in this annual  report,  fairly  present in all
           material respects the financial condition,  results of operations and
           cash flows of the registrant as of, and for, the periods presented in
           this annual report;

4.         The registrant's other certifying  officers and I are responsible for
           establishing and maintaining  disclosure  controls and procedures (as
           defined in Exchange Act Rules  13a-14 and 15d-14) for the  registrant
           and we have:

               a) designed  such  disclosure  controls and  procedures to ensure
               that material information  relating to the registrant,  including
               its  consolidated  subsidiaries,  is made  known to us by  others
               within those  entities,  particularly  during the period in which
               this annual report is being prepared;

               b) evaluated the  effectiveness  of the  registrant's  disclosure
               controls and  procedures as of a date within 90 days prior to the
               filing date of this annual report (the "Evaluation Date"); and

               c)  presented  in this annual  report our  conclusions  about the
               effectiveness of the disclosure  controls and procedures based on
               our evaluation as of the Evaluation Date;

5.         The  registrant's  other  certifying  officers and I have  disclosed,
           based on our most recent evaluation, to the registrant's auditors and
           the audit  committee of  registrant's  board of directors (or persons
           performing the equivalent function):

               a) all  significant  deficiencies  in the design or  operation of
               internal  controls which could adversely  affect the registrant's
               ability to record,  process,  summarize and report financial data
               and have  identified for the  registrant's  auditors any material
               weaknesses in internal controls; and

               b) any fraud,  whether or not material,  that involves management
               or  other   employees  who  have  a   significant   role  in  the
               registrant's internal controls; and

6.         The registrant's  other  certifying  officers and I have indicated in
           this annual report whether or not there were  significant  changes in
           internal controls or in other factors that could significantly affect
           internal  controls   subsequent  to  the  date  of  our  most  recent
           evaluation,   including  any   corrective   actions  with  regard  to
           significant deficiencies and material weaknesses.

Date: March 21, 2003
                                 /s/ Thomas L. Gruber
                                -----------------------
                                Thomas L. Gruber
                                Chief Financial Officer