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                                 UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549
                      ------------------------------------
                                   FORM 20-F

<TABLE>
<S>         <C>                                                           <C>
(Mark One)
   [ ]       REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF
                        THE SECURITIES EXCHANGE ACT OF 1934
   [X]          ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                          SECURITIES EXCHANGE ACT OF 1934
                    For the fiscal year ended DECEMBER 31, 1999
                                         OR
   [ ]       TRANSITION REPORT TO SECTION 13 OR 15(d) OF THE SECURITIES
                                EXCHANGE ACT OF 1934
                    For the transition period from           to
                          Commission file number: 0-21944
</TABLE>

                              MADGE NETWORKS N.V.
             (Exact name of Registrant as specified in its charter)

                (Translation of Registrant's name into English)

                                THE NETHERLANDS
                (Jurisdiction of incorporation or organization)

     TRANSPOLIS SCHIPHOL AIRPORT, POLARIS AVENUE 23, 2132 JH HOOFDDORP, THE
                                  NETHERLANDS
                    (Address of principal executive offices)

     Securities registered or to be registered pursuant to Section 12(b) of the
Act.

<TABLE>
<CAPTION>
             Title of each class                 Name of each exchange on which registered
<S>                                            <C>
                                            None
</TABLE>

     Securities registered or to be registered pursuant to Section 12(g) of the
Act.

              Common Shares, par value one Dutch Guilder per share
                                (Title of Class)

     Securities for which there is a reporting obligation pursuant to Section
15(d) of the Act.

                                      None

     Indicate the number of outstanding shares of each of the issuer's classes
of capital or common stock as of the close of the period covered by the annual
report.

       Common Shares, par value one Dutch Guilder per share:  40,511,345

     Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
                        Yes [X]                      No [ ]
     Indicate by check mark which financial statement item the registrant has
elected to follow.
                    Item 17 [ ]                  Item 18 [X]
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<PAGE>   2

                              MADGE NETWORKS N.V.

                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                            PAGE
                                                                            ----
<S>           <C>                                                           <C>
Forward Looking Statements................................................   1
PART I
Item 1        Description of Business.....................................   3
Item 2        Description of Property.....................................  28
Item 3        Legal Proceedings...........................................  29
Item 4        Control of Registrant.......................................  29
Item 5        Nature of Trading Market....................................  30
Item 6        Exchange Controls and Other Limitations Affecting Security
                Holders...................................................  31
Item 7        Taxation....................................................  31
Item 8        Selected Financial Data.....................................  35
Item 9        Management's Discussion and Analysis of Financial Condition
                and Results of Operations.................................  36
Item 9A       Quantitative and Qualitative Disclosures About Market
                Risk......................................................  42
Item 10       Directors and Officers of Registrant........................  43
Item 11       Compensation of Directors and Officers......................  44
Item 12       Options to Purchase Securities From Registrant or
                Subsidiaries..............................................  45
Item 13       Interest of Management in Certain Transactions..............  45

PART II
Item 14       Description of Securities to be Registered..................  47

PART III
Item 15       Defaults Upon Senior Securities.............................  47
Item 16       Changes in Securities and Changes in Security for Registered
                Securities and Use of Proceeds............................  47

PART IV
Item 17       Financial Statements........................................  47
Item 18       Financial Statements........................................  47
Item 19       Financial Statements and Exhibits...........................  48
Signatures................................................................  49
</TABLE>

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                           FORWARD LOOKING STATEMENT

     Our operating results have in the past and may be in the future affected by
various risk factors, many of which are beyond our control. Certain of the
statements included in this Form 20-F express our "anticipation," "belief,"
"commitment," "expectation," "intention," "goals," "plans" or similar terms,
regarding:

     -  the success and growth of Madge.web

     -  economies of scale being achieved by Madge.web

     -  expected dates for the launch of our products and services

     -  the adequacy of our financial resources and our ability to raise
        additional financing

     -  the success of cost reduction plans in Madge.connect and accounting
        therefor

     -  the size of and potential growth or decline in markets for our products
        and services

     -  our expected gross margins and expense levels

     -  our plans to continue investing in new products, services and core
        technologies

     -  belief regarding our tax status as PFIC or FPHC

     -  the anticipated outcome of litigation involving us

     -  expectations regarding future special charges and other accounting
        treatment

     -  ability to maintain existing partnerships and develop new ones

     -  ability to attract and retain skilled employees

     Such statements as well as other statements that are not historical fact,
are forward-looking statements within the meaning of the United States Private
Securities Litigation Reform Act of 1995 and involve risks and uncertainties
referred to in this Form 20-F under "Description of Business -- Risk Factors'
and elsewhere herein. Actual results, actions or events could differ materially.
Risks include, among other factors:

     -  management of growth and integration of acquisitions

     -  our ability to raise the additional funds we require

     -  potential for quarterly fluctuations in revenues

     -  our continued dependence upon revenue from Token Ring products

     -  our dependence upon a limited number of suppliers

     -  the need for regulatory approvals for certain telecommunications
        services

     -  our dependence upon third party distributors

     -  frequent new product introductions by competitors

     -  any defects in our products or services would direct our attention from
        product development and could result in loss of customers

     -  loss of key personnel could harm our results of operations

     -  intense industry competition

     -  rapid or unexpected changes in technologies

     We believe that future operating results will also depend on, among other
factors:

     -  demand for our products and services

     -  our ability to identify and develop new product and service
        opportunities

                                        1
<PAGE>   4

     -  our ability to differentiate our products and services from competitors

     -  general economic conditions

     See "Description of Business-Risk Factors" below. You are urged to
carefully consider these factors as well as other information contained within
this Form 20-F and in our other periodic reports and documents filed with the
Securities and Exchange Commission.

                                        2
<PAGE>   5

                                     PART I

ITEM 1.  DESCRIPTION OF BUSINESS.

OVERVIEW

     Madge Networks N.V. ("Madge") is a global managed network services and
product solutions provider specializing in mission-critical enterprise needs.
Our goal is to optimize the implementation of enterprises' voice, video and data
networks with the ultimate aim of converging all networking needs on Internet
Protocol (IP) solutions. We operate through two subsidiary groups, Madge.web and
Madge.connect. Madge.web provides network infrastructure and application
services to address the specific needs of multinational finance and media
companies. Madge.connect is a global supplier of advanced networking products
including Token Ring solutions, ISDN switching and IP based video networking for
large enterprises. Our main business centers are located in New York and Dallas,
Texas, in the United States (for the Americas region), Singapore (for
Asia-Pacific region) and Wexham Springs in the United Kingdom (for the rest of
the world). We market our Madge.web services primarily directly to business
customers, and we serve our customer base for our Madge.connect products through
a global network of distributors and resellers.

     Our Madge.web group provides network infrastructure and application
services to address the specific needs of multinational finance and
media/publishing companies. These value-added voice and data networking
services, include managed IP services over our own network (the "Madge net").
Our acquisition of Gains International in February 1999 provided us with a
global network and allowed us to move quickly to roll out the Madge net on a
world-wide basis. Our strategic alliances, including alliances with RealNetworks
and Engage Technologies, will allow Madge.web to offer high value services for
the financial and media/publishing markets with a focus primarily in Europe. The
internet is fundamentally changing these two industries. We provide network and
hosting services to support their network-centric applications and
communications. We anticipate that Madge.web revenues of $29.5 million for 1999
will grow significantly over the next 12 months and will increase as a
proportion of our total revenues.

     Our Madge.connect group produces products for data and video networking. We
offer products in two main areas: (1) Token Ring products including High Speed
Token Ring ("HSTR") and asynchronous transfer mode ("ATM") backbone products for
the Token Ring network and (2) Video Networking products that meet the network
infrastructure needs of companies using video conferencing. Our Token Ring and
HSTR product offerings were enhanced by our acquisition of the Token Ring
business of Olicom A/S ("Olicom") on August 31, 1999. We expect the market for
our Token Ring products will continue to decline. Our strategy has been to
increase our market share and our acquisition of Olicom's Token Ring business
reflects this. We will also be enhancing our product portfolio further by the
release (planned for 2000) of products that will allow end users to connect a
Token Ring network to a Gigabit (1000 Mbps) backbone. This will enable our
customers to retain their investment in Token Ring technology and yet benefit
from the high speed backbones now available. In fourth quarter 1999 we created
two specific groups within Madge.connect research and development, one focusing
on enhancing our existing enterprise products and the other on new internet
related access products. Our networking products are used primarily by large
organizations that rely on network infrastructure for their enterprise-critical
applications. These organizations require networks that provide a high degree of
stability, reliability, performance and functionality. We are marketing our
Madge.web managed network services directly to similar organizations.

     Certain corporate services were provided by both Madge.web and
Madge.connect and from January 1, 2000 these services are being supplied by a
group services company incorporated in the UK.

     Madge Networks N.V. (Nasdaq: MADGF), a public limited liability company,
was incorporated in The Netherlands in April 1993 and completed an initial
public offering in August 1993. Our registered offices in The Netherlands are
located at Transpolis Schiphol Airport, Polaris Avenue 23, 2132 JH, Hoofddorp,
The Netherlands, and our telephone number is (31) 23 5649 123. Our Director of
Investor and Public Relations is Ms. Lisa Ellis, who may be contacted at One
State Street Plaza, 12th Floor, New York, New York 10004, telephone number (212)
709-1007.

     Unless the context otherwise requires, references to "Madge", "our" or "we"
herein are to Madge Networks N.V., together with our direct or indirect
wholly-owned subsidiaries.

                                        3
<PAGE>   6

MADGE.WEB

     Our Madge.web group provides network infrastructure and application
services, particularly focused on serving the specific needs of multinational
finance and media/publishing companies. These value-added voice and data
networking services, include managed IP services over our own network (the
"Madge net").

SERVICES WE OFFER

     The following is a list of the services we offer or, in the case of
Streaming Media, anticipate we will offer by mid-2000. Our currently available
services are provided with no reliance on a third party, other than upon the
carriers to provide us with the bandwidth required.

- Managed Hosting

     -  A variety of customized hosting solutions, based on one or more
        dedicated servers, providing customers with a managed server platform,
        and associated management of operating systems and web hosting software.

- Managed Virtual Private Networking

     -  Managed end-to-end virtual private networks, based on IP, used by
        customers for a variety of applications.

     -  Managed end-to-end virtual private network, based on IP, for closed
        communities of users.

     -  Managed firewalls and other security measures, used by customers to
        protect the integrity of their networking.

     -  Remote dial-up a network, used by customers for tele-workers and
        preferred partners.

     -  Internet connectivity, enabled at various Internet links in different
        countries, used by customers to allow outward access to the Internet
        from their virtual private network, and inward access to
        security-enabled users.

- Managed Private Networking

     -  Managed end-to-end open voice networks, specifically for broker/trader
        applications.

     -  Managed end-to-end private networks, used by customers for a variety of
        applications, delivered by dedicated circuits within the Madge net.

     -  End-to-end private bandwidth used by customers for a variety of
        applications, delivered by dedicated circuits.

- Application Hosting and Management

     -  Internet application service for advertising delivery, deployed in
        alliance with Engage Technologies as Engage AdBureau Europe, to host and
        deliver banner advertisements and other profile-driven content, allowing
        customers to outsource all the activities associated with the delivery
        of Internet advertising and to link up with the Engage Knowledge profile
        database.

- Streaming Media - expected to be in operation by mid-2000, offered and
  jointly marketed in alliance with RealNetworks

     -  Madge Broadcast Network - a service utilizing the Madge net to by-pass
        the backbone of the public Internet in Europe, giving providers of rich
        media content a high quality storage and delivery service of streaming
        media.

     -  A service to encode rich media content, providing content provider
        customers a one stop shop for converting television-quality and audio
        signals into Internet-ready streaming data.
                                        4
<PAGE>   7

OUR NETWORK - MADGE NET

     We operate a network backbone that overlays and bypasses the public
internet (hence called an "overnet") that we call Madge net. A backbone is a
high capacity element of an infrastructure that interconnects a number of
workgroups and network-based services. Madge net has evolved from two primary
components: the Madge.web core ATM/IP infrastructure and the installed network
facilities acquired from Gains International. The historical Gains network
infrastructure was designed and deployed for the specific operational
requirements of compressed voice services within the financial services (dealing
room) environment. These requirements are to minimize voice delays on an
end-to-end basis, and to provide distributed voice conditioning throughout the
network. Consequently, the network platform installed for these services
utilizes Time Division Multiplexing (TDM) technology. In contrast, the core IP
services depend on an ATM/IP infrastructure.

     The two core network components have been integrated to allow connectivity
of any service (IP, managed data or voice) across the existing world-wide
network. This network currently spans 33 countries with 55 principal Points of
Presence (POPs). The backbone network bandwidth varies, depending on
geographical region and customer requirements.

     Madge net will continue to be developed via the deployment of ATM/IP nodes,
probably to all existing countries that currently have TDM facilities. Our
current projection is that all existing TDM nodes will be interconnected with
the ATM/IP nodes so that the voice traffic is transported across the ATM
backbone along with all IP services by mid 2001 so that ultimately all customer
applications and services will be transmitted and supported across a wholly ATM
network with world-wide coverage. Additional countries have been identified in
line with the market opportunities for IP and compressed voice services.

     To ensure maximum internet connectivity for us, we plan future POPs in
locations within or in close proximity to public internet exchange points and
with multiple, diverse telecommunications services from multiple providers.

     Within our core Wide Area Network (WAN) technology we currently utilize ATM
platforms from Nortel, IP platforms from Cisco and Time Division Multiplexer
platforms from Newbridge Networks. Each platform is available in a number of
configurations and is deployed as per the size and reliability needs of a
particular location.

DESIGN PRINCIPLES USED FOR OUR ATM/IP NETWORK

     We have designed the Madge net for resilience, diversity, scalability,
performance and rapid customer deployment.

Resilience

     -  All core network components are deployed in a redundant, fault-tolerant
        manner, including multiple network connectivity in key locations.

     -  All core network connectivity is implemented using SDH (Synchronous
        Digital Hierarchy) or Sonet technology. This means that the
        telecommunications services themselves are fault-tolerant.

     -  Each POP or data center location is supported by fault-tolerant power
        feeds that provide uninterruptible power supply and a back-up generator
        plant.

Diversity

     -  All core network backbone services are deployed using multiple
        telecommunication routes, which is particularly important with
        international services.

     -  Where appropriate, multiple telecommunications services are deployed
        from a number of different telecommunication operators to safeguard
        against failure conditions within a specific operator's network.

     -  Where required, back-up services utilizing integrated services digital
        networking ("ISDN") technology are implemented, to further diversify the
        service options to end user customers.
                                        5
<PAGE>   8

Scalability

     -  Our POP switch and router equipment has been specialized to support our
        estimated connectivity and service needs.

     -  Current backbone network services can be simply and seamlessly upgraded
        to meet growing customer demand.

     -  Our network capacity planning group typically forecast network capacity
        three to six months ahead, allowing us to carry out any necessary
        network upgrades in a controlled and seamless manner.

Performance

     -  The network is designed to offer a minimum number of hops to each Public
        / Open Internet Exchange point.

     -  The network is deployed so that it will only take a relatively small
        maximum volume of traffic to ensure minimum packet (data) loss and
        minimum end-to-end delays.

Rapid customer deployment

     -  While our services typically meet the complex needs of our customers,
        they are designed so that they can be rapidly implemented.

     -  As new customer connections are required the customer-connecting
        telecommunication services deployed within the POP require only software
        programming, thereby minimizing installation lead-times.

BANDWIDTH UTILIZATION AND DEPLOYMENT

     We procure fiber-based telecommunications facilities from a number of major
carriers selected on the basis of service and performance levels and upon their
implementation lead-times as well as cost. We are currently not building or
buying our own fiber installation. This is largely due to the fast dynamics
within the bandwidth arena, particularly related to falling prices, introduction
of new providers and new technologies.

     The bandwidth available on our network can be increased in line with the
overall network capacity required by customer demand. In this way, costly spare
network capacity is not lying idle on the network.

NETWORK MANAGEMENT AND CUSTOMER SUPPORT

     Our global network infrastructure is monitored from two primary,
state-of-the-art Network Operations Centers (NOCs). These are full support
facilities within the United Kingdom (Wokingham) and North America (New York)
that together provide coverage to our customers 24 hours a day, every day of the
year. A further NOC is planned for Singapore during 2000 or early 2001. Our NOCs
manage the end-to-end customer IP and TDM services, as required by our service
level agreements with our customers. Our NOCs allow fast and easy customer
access to the required level of engineering support. In addition, these support
centers also offer customer "self-service" facilities, so that customers can
access service information (for example, trouble tickets and usage statistics),
via the internet. We do this by using the latest generation of customer care and
billing systems (systems including Clarify, Geneva and ACD), in addition to a
range of network and system controls and monitoring systems, utilising HP
OpenView as an umbrella management system. As of December 31, 1999 94 operations
personnel supported these centers. The engineering personnel undertake
industry-recognized accreditations where appropriate and provide multi-lingual
language support, in line with our international customer base.

STRATEGIC ALLIANCES

     We have so far established two alliances with U.S. based internet
technology companies, RealNetworks and Engage Technologies. A key element of our
strategy is to leverage our strength in Europe as a provider of

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<PAGE>   9

network infrastructure and application services to enter into partnerships with
leading American internet companies who wish to accelerate their moves into
Europe.

RealNetworks(R) Inc.

     In December 1999, we entered into an agreement with RealNetworks to extend
Real Broadcast Network services to Europe. The Real Broadcast Network is an
internet broadcast service providing streaming media distribution services on
behalf of broadcasters and content providers. Currently deployed only in North
America, it offers full turnkey services, including the hardware, software,
personnel, network connectivity and bandwidth necessary to enable businesses to
deliver real-time and playback of rich multimedia streaming content over the
internet. The Real Broadcast Network operates a network backbone that by-passes
the public internet (overnet) and features a distributed multi-tier architecture
designed to improve internet broadcasts by routing consumers to the nearest
broadcast hub on the internet or within an internet service provider.

     Through our agreement with RealNetworks, we will be setting up an affiliate
network and broadcast operations (encoding) center in Europe, the Madge
Broadcast Network, utilizing RealNetworks technology. RealNetworks will also
provide consultancy services to help put the service into operation. The two
companies will exchange the traffic of content providers seeking trans-Atlantic
distribution of their rich media content. As this arrangement rolls out we will
incur costs, including capital investment in equipment needed to establish a
connection of sufficient bandwidth between our networks and additional people
will need to be hired to implement and run this arrangement. We do not expect to
generate revenue from this roll-out until the third quarter of 2000. We will
jointly market the European service, with marketing funds being contributed by
RealNetworks. Each company has unlimited geographical rights to market the
services of the other company's Broadcast Network.

Engage Technologies, Inc.

     We entered into a three year agreement with Engage Technologies, a
subsidiary of CMGI, in May 1999. Under this agreement we obtained exclusive
rights to operate the Engage AdBureau, a turnkey service for the scheduling,
targeting, delivery, and reporting of internet advertising in Europe. In June
1999 we established the hosting service for AdBureau at our own cost, and the
revenue generated based upon the number of advertising views that take place is
divided according to a formula agreed with Engage Technologies.

     Currently Engage Technologies markets the AdBureau service directly to
their customers. In May 1999 we were granted the rights to sell the service to
end users. Engage Technologies co-operates in joint marketing activities with
us, and provides us with introductions to potential customers for our web
hosting services.

MARKETING, SALES & DISTRIBUTION

     As of December 31, 1999 we employed 85 marketing and sales personnel in
Madge.web. Madge.web markets its global services directly to business customers
and to a limited extent through partners who take commissions. While we employ a
combination of direct sales and indirect channels for both target markets, our
emphasis is on direct sales, for which we employ sales techniques such as local
telemarketing, individual referrals, and trade shows. We also have an
established network of resellers who sell our trade voice service (part of the
Managed Virtual Private Networking suite of services listed above). These
resellers operate in addition to our direct sales force. We do not enter into
reseller agreements in any geographic market that would prevent our selling
direct in the future. We currently sell services direct to customers in all
major European countries. To expand our sales activities we plan to add sales
personnel in several European countries during 2000 including Germany and
Holland in the second quarter. In addition to Europe our direct sales force
covers the United States, the United Kingdom, Singapore, Australia, Hong Kong,
Malaysia and Japan.

     Engage Technologies also provide additional customer access for Madge.web,
by effectively serving as resellers of certain Madge.web services. We are also
targeting web site design companies as a means to obtain further access to the
media/publishing market. An example of this is our relationship with flg21, a
leading UK-based web site designer, whose web services we now host and deliver.

                                        7
<PAGE>   10

     The telecommunications industry continues to be subject to regulation,
which is still particularly restrictive in parts of Asia, Eastern Europe, Africa
and the Middle East. We have operating licenses or have developed relationships
with the major telecommunication operators in all our key markets. This gives us
an entry point for the further development of our IP-based activities in these
countries. For more information on the regulation in these markets see
"Madge.web - Services we offer" and "Madge.web Services Regulation" both in
this Item 1.

     We believe that Europe has the greatest potential revenue growth for our
Madge.web business over the next three years as the market for internet services
in Europe increases substantially, and we will be concentrating our efforts on
this region. We derived approximately $26.7 million or 91% of our net Madge.web
revenue from operations outside of the Americas in 1999. We expect that sales
from outside the Americas will continue to represent a majority of our net
service revenue. Multinational business is subject to various risks, including
exposure to currency fluctuations, the greater difficulty of administering
business globally, regulatory requirements and other risks associated with
international sales, such as import and export licenses, political and economic
instability, overlapping or differing tax structures, trade restrictions and
changes in tariff and freight rates.

     Madge.web enters into customer contracts, typically for one year or more,
that provide for either monthly or quarterly payments to be made and as such,
Madge.web revenue is also subject to fluctuations as customer contracts end,
tariffs rates change and new contracts are signed.

CUSTOMERS

     Madge.web is concentrating in particular on providing services to companies
in the financial and media/publishing markets. The following provides a list of
some of the companies to whom Madge.web provides one or more services:

<TABLE>
<CAPTION>
    FINANCIAL SERVICES                            MEDIA/PUBLISHING
    ------------------                            ----------------
    <S>                                           <C>
    ABN Amro                                      Centaur Communications
    Bangkok Bank                                  EMAP Online
    Banque Nationale de Paris                     Flg21
    Carl Kliem SA                                 Hurst Publishing
    Commerzbank AG                                IPC Electric Limited
    Credit Suisse First Boston (Europe)           MGN Limited
    Limited                                       WAM!NET UK Limited
    Deutsche Bank AG                              SNAI International Limited
    Goldman Sachs                                 Medialand
    Merrill Lynch                                 Film World Limited
    Sanwa Bank
</TABLE>


MADGE.CONNECT


     Madge.connect is a global supplier of our traditional Token Ring local area
network and video networking solutions and offers a range of data and video
networking products.

TOKEN RING SOLUTIONS

     We provide Token Ring users product solutions for their local area network
("LAN") infrastructure, from the desktop through to the backbone. Our portfolio
of Token Ring products and customer base was increased significantly with the
acquisition of the Token Ring business of Olicom A/S in August 1999. See Item 9
-Management's Discussion and Analysis of Financial Condition and Results of
Operations - General. We are carrying out a review of our Token Ring product
portfolio in light of the Olicom acquisition and intend to streamline our
product portfolio to maximize volume efficiency and customer value.

- Token Ring Adapter Cards

     We provide Token Ring adapter cards for workstations, servers and mobile
users. Adapter cards plug into an expansion bus of a personal computer,
workstation or server to provide the physical connection to the network

                                        8
<PAGE>   11

cable and to control data exchange over the network. We deliver a range of Token
Ring adapter cards for all the major industry standard PC bus architectures.

     Our "Smart" product line is a set of high performance, high functionality
Token Ring adapters suitable for demanding applications in all Token Ring
environments. In addition to this line we also produce the Presto PCI adapter,
which is designed as a more cost effective solution and an adapter which
supports HSTR (High Speed Token Ring) operation at 100 Megabytes per second
("Mbps"). Our most recent adapters all use the Ringrunner(TM) family of silicon,
which we developed. These adapters are shipped with our Madge Perspective(TM)
LAN Tools, a suite of driver and support software that allows users to run the
same software across desktops, laptops and servers. This allows easier
installation and support of Token Ring networks.

     Our Olicom brand adapters are also high performance devices performing the
same function as the Madge branded adapters, ranging in speed from 4/16 Mbps to
100 Mbps. These adapter products include a 100/16/4 Mbps adapter, a cost
effective 16/4 adapter and a Personal Computer Memory Card International
Association ("PCMCIA") card.

     Our Unidriver software will help us with our program of streamlining our
product portfolio as this software will enable our customers to migrate between
Olicom and Madge brand adapters. The current version of the Unidriver software
simplifies the migration between different versions of Madge branded adapter
cards. The next version, due to be released mid-2000, will allow users of the
larger volume Olicom-branded cards to migrate to Madge-branded adapter cards and
vice versa, usually only by changing their hardware, which is typically easier
than having to change the software.

     According to the independent research firm Cahners In-Stat ("In-Stat"), we
were second to IBM in world-wide unit shipments for Token Ring adapter card
products in 1999 with approximately 27.4% of the Token Ring adapter market
share. Since September 1999 our sales have included the sales of the Olicom
Token Ring adapters we acquired. This is reflected in the fact that for the
fourth quarter 1999 our share of the market was 41.3%, again second to IBM.

- Stackable Token Ring Hubs

     We offer hub solutions for the backbone, workgroup and branch office. We
provide an intelligent Token Ring stackable hub that provides fully automated
fault recovery and management capabilities. The product range includes our
SmartCAU Plus(TM), SmartLAM(TM) and SmartRAM(TM) products. The Olicom branded
products (the OC3000 family) are very similar to the Madge brand (and other
products on the market) but were usually sold by Olicom to different customers
from ours. Following our acquisition of Olicom's Token Ring business, our
primary competitors in the Token Ring switching market are IBM, Nortel and
Cisco. According to estimates by Dell'Oro (an independent research firm), our
world-wide market share for Token Ring switches in 1999 ranked us first. In 1998
Dell'Oro ranked us fifth.

- Token Ring Switches

     - Smart Ringswitch(TM) Products

     The Smart Ringswitch family is designed to provide the functionality that
was previously addressed by bridges and routers, but at a higher performance
level and a lower price. The Smart Ringswitch family offers increased
performance of network traffic between workgroup rings and facilitates the
centralization of servers into a single location where they can be easier to
manage and maintain. This product family supports virtual LANs on a per port
basis and/or spread across multiple switches. The switch incorporates a unique
method of reducing broadcast traffic, running alongside other traffic control
processes, and passes only necessary broadcast traffic to each and every ring.
The Smart Ringswitch Plus product provides comprehensive broadcast control on
most Token Ring LAN protocols commonly in use.

     Our Smart Ringswitch product family also offers a choice of connection
types, such as HSTR, DTR (Dedicated Token Ring with full duplex operation
allowing the switch to simultaneously send and receive data for increased
efficiency), FDDI (Fiber Distributed Data Interface) and ATM links. The Smart
Ringswitch Plus is a modular product, which means customers can add or change
its physical characteristics to suit their requirements.
                                        9
<PAGE>   12

     Our Smart Ringswitch Plus(TM) and Smart Ringswitch Express(TM) Token Ring
switches are designed to ease congestion on Token Ring backbones. During 1999
new modules were launched for Smart Ringswitch Plus to increase the maximum
number of HSTR connections, in addition to new models of Smart Ringswitch
Express, which offer HSTR connectivity. These HSTR options offer greater
bandwidth for Token Ring backbones than was previously available, allowing
faster transfer of data with less congestion.

     Our Ringrunner family of silicon devices are designed to enable
"cut-through" switching for Madge.connect's switch products. "Cut-through"
switching allows data to be switched with lower latency delays that can result
from "store-and-forward" switching - the alternative to "cut-through"
switching. However "cut-through" cannot be used for every switch application.

     - Olicom-branded 8600 family

     The Olicom branded 8600 family of switches are resilient, stackable
switches used for workgroup or small backbone applications where a more costly
device such as Smart Ringswitch is not appropriate. The 8600 switch family
connects either hubs or individual devices to the network. It features a
flexible stacking arrangement to allow customers a choice of configuration. In
addition to its Uplinks (allowing connection to a backbone switch), it provides
for the translation between different media types (e.g. Token Ring to Ethernet).

     - Smart DeskStream(TM) Products

     Our Smart DeskStream Token Ring Switch has been designed to provide the
benefits of full Token Ring switching for direct PC connections. These products
offer more bandwidth for each connection, are more secure and more reliable, and
are priced comparable to Token Ring hubs. The Switch also enables the connection
of the workgroup to the backbone via a higher speed connection. The adoption of
switching technology has allowed Token Ring backbones to deliver increased
performance and resilience throughout the network and also gives users the
ability to add capacity to the network as demand increases and to design a
flexible network that meets their needs. By leveraging the power of installed
Token Ring network interface cards, each switched desktop connection can benefit
from a dedicated 16 Mbps (full-duplex) of bandwidth to each PC, and the
capability of a high-speed uplink to the network backbone. This is a significant
increase in the bandwidth available to users on conventional, shared-media Token
Ring. In addition, dedicated connections can improve both manageability and
reliability and therefore reduce support costs.

     Our Smart DeskStream employs high speed, low latency cut-through switching
between user ports to deliver wire-speed bandwidth to every desk, optimizing
network-application performance. The highly scaleable stacking architecture
offers simple, gradual expansion, as additional network connections are
required. A variety of connection modules are available to connect Smart
DeskStream to other networks, including Token Ring (fiber and copper), and HSTR.
The ATM connection module is planned for release by mid-2000.

     The Smart DeskStream allows workgroups to be instantly upgraded from shared
to switched connections without needing re-configuration. It is able to do this
because it has auto-speed and media sensing ports and can support both source
route and transparent methods of information routing.

ATM BACKBONE PRODUCTS

     Our ATM products are designed to protect our customers' existing
investments in Token Ring by allowing them to integrate their Token Ring
networks with an ATM backbone. An ATM module is available to link the Ringswitch
family of Token Ring switches into an ATM backbone and an ATM uplink for the
Smart DeskStream is planned for release by mid-2000.

     Our Collage(TM) 700 series are a range of high performance ATM backbone
switches that are designed to support our LAN emulation software for Token Ring
networks at speeds of up to 622 Mbps.

     Our Collage 155 PCI adapter is a 155 Mbps ATM adapter card that supports
the server environment. We have provided this ATM card throughout 1999, but we
anticipate that it will be discontinued during 2000 due to a rapidly falling
demand. Sales of ATM products into Token Ring networks are declining and are
expected to be a decreasing proportion of our net sales.
                                       10
<PAGE>   13

HIGH SPEED TOKEN RING PRODUCTS

     To serve the needs of Token Ring users who need to scale network
performance, particularly in the backbone, without having to introduce
alternative technologies such as ATM or Ethernet, the leading Token Ring vendors
have developed the HSTR extension to the Institute of Electrical and Electronics
Engineers ("IEEE") 802.5 Token Ring Standard for 100 Mbps. HSTR supports native
Token Ring protocols and frame formats (the structure of the information of the
traffic in Token Ring as defined by the IEEE) to enable easy integration into
existing Token Ring networks.

     The HSTR Alliance, an alliance of leading Token Ring vendors including
Madge.connect, IBM, and Olicom (until Madge.connect acquired their Token Ring
business in August 1999), has developed specifications for HSTR with the IEEE.
Madge is the vice-chair of the HSTR Alliance.

     We have developed and are now shipping a range of HSTR products operating
at 100 Mbps, including HSTR modules for the Ringswitch and the DeskStream family
of switches and a HSTR adapter for server and power users. HSTR modules for the
8600 family are also available. Olicom also shipped its 100/16/4 HSTR adapter
(model 3450) in 1999, although the volumes were modest. Madge.connect intends to
discontinue the Olicom card during 2000 and to concentrate our efforts on our
own brand equivalent (model 51-05) in order to optimize manufacturing efficiency
and customer value.

GIGABIT NETWORKING PRODUCTS

     Recent industry advances now permit customers to implement a backbone
running at Gigabit (1000 Mbps) speed. However such a backbone uses Ethernet, an
alternative networking technology to Token Ring. A customer may want to use a
Gigabit backbone for a number of reasons, including the increased speed and the
widely perceived performance and cost benefits. For a customer to maintain the
maximum flexibility and choice in their backbone and to continue to utilize
their existing Token Ring network, we intend to release a Gigabit IP switch
during 2000. This will enable our customers with a Token Ring network to enhance
their network with connectivity to a Gigabit backbone. If we are unable to
release such products, for whatever reason, this could have a material adverse
affect upon our Token Ring revenue and our business.

VIDEO NETWORKING PRODUCTS

     Our video networking products include a family of wide area network, ISDN
access switches primarily used for global video communications
(AccessSwitch(TM)). These products support more than 40 signaling protocols and
are able to consolidate a variety of voice, data and video traffic and
dynamically allocate consolidated traffic to a broad range of private and public
carriers in a cost-effective manner. The AccessSwitch 60 and the AccessSwitch
200 products offer varying numbers of ports and provide high-capacity,
high-performance, integrated network access for large networks. The AccessSwitch
20 is designed for smaller sites and remote locations.

     The Madge LAN Video Gateway(TM) product enables organizations of any size
to enhance communications through deployment of desktop video conferencing over
a local area network. The product provides call control for video calls within
the LAN and seamless connectivity with remote conferencing systems across the
telephone network.

     Our "Video-In-A-Box," is a desktop video conferencing package that allows
our resellers to provide customers with an integrated LAN video conferencing
solution. In 1999 we introduced an ISDN based personal VideoPhone designed to be
used either in the home or in the office, which is easy to install and use on a
standard telephone. We do not anticipate growth in demand for this product set
and are looking to find a strategic partner for our Video Networking products
business.

MARKETING, SALES AND DISTRIBUTION

     As of December 31, 1999 we employed over 300 marketing and sales personnel
world-wide in Madge.connect. We have sales offices or local independent agents
in regions with high market potential for our products throughout the world. As
part of a restructuring of the Madge.connect group currently being undertaken
                                       11
<PAGE>   14

this number will be decreased by 14% during three quarters starting fourth
quarter 1999. This headcount reduction will mainly be from the sales and
marketing and research and development groups.

     A majority of our Madge.connect sales are fulfilled and distributed
world-wide through a network comprised of distributors, VARs ("Value Added
Resellers") and OEMs ("Original Equipment Manufacturers"). Our indirect
distribution channels vary by product and from country to country. In the United
States, the distribution channel includes major national distributors, such as
Ingram Micro, Inc. and Tech Data Corporation, Inc. for our Token Ring products,
and specialized resellers for the our video networking products. In Europe, Asia
and other geographic markets, we sell our products predominately through
distributors and resellers but also, in certain circumstances, directly to end
users. The loss of any significant distributor or reseller could have a material
adverse effect on our results of operations until alternative distribution
channels could be established. In addition, as we continue our use of VARs and
extend credit to resellers, distributors, other channel partners and end users,
we may be exposed to increased credit risks, which could lead to losses that
could be material to us and the results of our operations. For the year ended
December 31, 1999 no one distributor or reseller accounted for more than 10% our
consolidated net sales. Madge.connect generally operate with little backlog,
although we sometimes receive end-of-quarter product orders that are not shipped
until the following quarter.

     Our marketing activities include a web site through which we market our
products and services. We also have a web site (Madge-on-line) specifically to
allow our resellers and distributors to order products via the Internet. We
participate in industry trade shows and seminars, advertise in trade
publications, publish technical articles in the trade press, distribute sales
and technical literature to communicate with resellers and with end users of our
products and services. We also mount targeted campaigns through direct mailings
and telemarketing. In addition, we produce a technical information service in
newsletter format that provides an update on matters of technical interest to
end users of our products. From time to time we also produce "white papers" that
deal with broader issues of interest to network managers.

     We grant to our distributors limited rights to return unsold inventories of
our products in exchange for new purchases. Although we provide allowances for
projected returns and believe our existing policy results in the establishment
of adequate allowances, there can be no assurance that any such allowance will
be sufficient to offset product returns in the future. In addition, we provide
price protection to our distributors, and a significant decrease in the price of
our products that exceeds the amounts that we have reserved could have a
material adverse effect on results of operations.

     We derived approximately $252.6 million, $199.7 million and $116.3 million,
or 66%, 66% and 71%, of our net Madge.connect sales from operations outside of
the Americas in fiscal years 1997, 1998 and 1999, respectively. We expect that
sales from outside the Americas will continue to represent a majority of our net
sales, which are subject to the same risks as described above for Madge.web.

                                       12
<PAGE>   15

END USERS

     The following list provides a sampling of the diverse organizations
world-wide that have purchased our Madge.connect products:

<TABLE>
<S>                                <C>                                <C>
3M France                          Daimler Chrysler AG                KLM (UK) Ltd
Allied Domecq plc                  Deutsche Post AG                   Kraft Jacob Suchard
Alfa Industrie GmbH                Esso                               Lincoln National Corp
American Electric Power            Euro Disney                        Lloyds TSB
Arizona Government Agencies        First Chicago National Bank        Lombard Bank
Axa                                First Direct                       Lufthansa Systems GmbH
Banc One                           Ford Motor Co                      Mannesmann
Bankers Trust Corporation          HM Treasury                        National City
Blue Cross/Blue Shield of          HSBC                               Novartis Pharma GmbH
  Michigan                         US Department of Housing and       Nuclear Electric
British Airways                      Urban Development                The British Post Office
BVG Berliner                       Genossenschafts-Rechenzentrum      Pfizer Ltd
  Verkehrsbetriebe                 GRZ                                State of Washington
Chase Manhattan Bank               Honda (UK) Ltd                     SITA
Citizens Bank                      IZB Soft GmbH & Co. KG             Whitbread Beer Co
Cram                               KfW Kreditanstalt fur              Virgin Atlantic Airways Ltd
Credit Agricole                      Wiederaufbau                     Visa International
Credit Suisse
</TABLE>

CUSTOMER SUPPORT AND SERVICE

     Madge.connect provides various levels of product technical support to end
users or to channel partners through our web site, the operation of toll-free
telephone hot lines, on-site systems engineers and a centralized, multi-lingual
organization from our support centers in Wexham Springs, England and Dallas,
Texas. The majority of our Madge.connect sales are fulfilled through indirect
distribution channels and we train our channel partners to provide support
services to our end users. If they wish to become a Madge Authorized Service
Partner and sell service of our products to end users, channel partners have to
meet certification and educational requirements. Since our acquisition of
Olicom's Token Ring business, we have integrated the support of Olicom's
customers into our existing technical support organization.

     Our technical support staff work closely with end users during the
evaluation period prior to their purchasing decision and during initial system
implementation. We assist end users in configuring our software to optimize
product performance, help resolve network implementation problems, whether or
not they are attributable to our products, and provide advice on long-term
networking strategies. In addition, close relationships with end users provide
feedback to us, which helps guide continuing product development efforts. We
continue to invest in strategies that bring support services closer to our
customers including enhanced electronic support tools and strategic alliances
that provide on-site support. Our founding affiliation with the industry
cooperative organization Technical Services Alliance ("TSAnet") exemplifies our
commitment to solving our customers' problems although the fault may not be with
a Madge product. TSAnet allows all members to access each other's technical
support engineers free of charge in order to resolve compatibility and
interoperability problems that may arise.

     We believe that strong customer support leads to customer satisfaction and
to additional purchases of our products. However, the declining Token Ring
market means service and support is an increasing percentage of our net sales.
We are actively looking to decrease our service and support costs, and we are
seeking a strategic partner to undertake our technical support and training.

     We generally provide a limited lifetime warranty to users of our adapter
card products and a one-year warranty on our Token Ring hubs and switches and
our video networking solutions products. We believe that our reserves are
adequate to cover future warranty costs, although there can be no assurance that
warranty reserves will be adequate in the future to cover actual warranty costs.

                                       13
<PAGE>   16

MANUFACTURING

     Our Madge.connect products are manufactured to our specifications largely
by subcontractors. We also have manufacturing facilities in Eatontown, New
Jersey where we assemble and test certain of our products. We expect to meet our
manufacturing requirements in the future by continued use of subcontract
suppliers. Our United Kingdom product distribution facility and principal
subcontractor have achieved ISO 9002 certification.

     In 1998 we sold our Irish manufacturing facility to Celestica, which agreed
to serve as our subcontract manufacturer for our Token Ring products for a
number of years. This arrangement has resulted in reduced manufacturing expenses
and increased operating efficiencies. Celestica remains a significant
subcontractor of Madge products. Ongoing product requirements for the products
we acquired from Olicom are currently produced in Thailand, by the subcontract
manufacturers that Olicom used before we acquired their Token Ring business.

     Our subcontract manufacturing suppliers not only provide manufacturing and
assembly services, but also testing and other activities. We develop detailed
test procedures and test specifications for each product and require the
subcontractor to use those procedures and specifications before shipping
finished products. We pay only for fully tested products meeting our determined
standards.

     We may from time-to-time manufacture products for resale by customers on an
OEM basis and may have products manufactured by our partners for resale by us
under the customer's label.

     The chipsets and components used in certain of our products are currently
available only from a single source or limited sources, for example chipsets
used in certain of our Token Ring adapter card products that are currently
available only from Texas Instruments or NEC Corporation. The nature of the high
technology components business is such that the vendors supplying such chips and
components are few and it takes time and effort to identify and qualify
alternative sources for such components. While our operating results have not,
to date, been materially adversely affected by any shortages, we have
experienced delays in the receipt of certain of our key components. For
instance, we have encountered difficulties in acquiring adequate and timely
quantities of two of our custom Application Specific Integrated Circuits
("ASIC") used in certain of our products and in acquiring sufficient quantities
of memory. The inability to obtain sufficient key components as required, or to
develop alternative sources if and as required in the future, could result in
increased costs and delays or reductions in product shipments, which, in turn,
could have a material adverse effect on our results of operations.

     Our continued reliance upon third-party manufacturers and suppliers
involves several potential risks, including the absence of adequate capacity,
the unavailability of or interruptions in access to certain process technologies
and reduced control over delivery schedules, manufacturing yields and costs. In
the event that a significant subcontract manufacturer or supplier were to become
unable or unwilling to continue to manufacture our key products in required
volumes, we would be required to identify and qualify acceptable additional
sources for its products or to manufacture the products ourselves. The
identification and qualification process could lead to delays and additional
costs and no assurances can be given that additional sources will become
available to us on a timely basis or that we could manufacture such products
ourselves on a timely or cost-effective basis. In addition, if any other
significant source partner were to establish a strategic working relationship
with one or more of our competitors or were to enter into direct competition
with us, our business could be materially adversely affected.

RESEARCH AND DEVELOPMENT

     The Madge.web network architecture group is responsible for the design and
integration of the underlying network and systems infrastructure and
architecture, together with the specification, design, test and integration of
Madge.web products and services to customers. The network architecture group
undertakes all technical evaluations of both products and vendors to ensure
utilization of best of breed technology and cost effective and competitive
products for our customers. In addition to the choice of technology, hardware
and software platforms, this group is responsible for ensuring a careful and
efficient design of the integrated infrastructure and products to give network
resilience and the highest possible service availability to our customer base by
integrating control and management systems. Intrinsic to the function of this
group is the research and analysis of new, leading edge

                                       14
<PAGE>   17

technology and products to ensure the applicability of Madge.web products within
the fast moving Internet and IP market.

     Our Madge.connect research and development effort is focused on developing
new product lines and on core technologies to further enhance the functionality,
reliability and flexibility of existing products including our newly acquired
Olicom products. Our world-wide sales force obtains extensive input concerning
product development from sellers and end users and we actively participate in
industry groups responsible for establishing technical standards.

     The market for our products and services is characterized by rapidly
changing technology, evolving industry standards and frequent new product
introductions. Our success will depend upon our ability to develop in a timely
manner new products and services that achieve market acceptance and to enhance
our existing products. Another key element of our ability to compete
successfully in the market for Token Ring and video networking products is the
continued compatibility and interoperability of our products with products from
other leading networking vendors, as well as with various personal computer
architectures and network operating systems. To this end our testing
laboratories in the United Kingdom and New Jersey test our products for
interoperability with the products of other leading vendors and also performance
benchmark testing. We act as a beta partner of IBM, Novell and Microsoft, which
provides us with timely access to new versions of these vendors' network
operating system software, thereby allowing us to ensure our products remain
compatible with these major networking environments. Certain of our products
must also comply with industry standards. Some of these industry standards are
still evolving and may be subject to change.

     In 1997, 1998 and 1999 our research and development expenditures in
continuing operations were approximately 17%, 15% and 17%, respectively, of net
sales from continuing operations. All of our research and development costs have
been expensed as incurred. We consider research and development expenditures to
be important to future net sales and expect these expenditures to continue to be
a significant percentage of net sales. However given the mature nature of the
Token Ring market place, there has been a decline in actual expenditure from
1998 to 1999, reflecting our strategy (discussed above see "Item 1 -- Overview")
to reduce research and development headcount and create two separate groups
within Madge.connect, with one focusing on Token Ring products and the other on
developing new product lines. We expect research and development expenditure on
Token Ring products to continue to decline over future periods.

     To the extent that the level of our research and development expenditures
do not result in revenue-generating products, our results of operations could be
adversely affected. We focus a significant portion of our resources on the
development of products and services for unproven or developing technology
markets. We will face risks to our business in the event that the markets for
these new products and services do not develop as expected. We will also need to
invest in making our existing and future products easier to understand and
install and in educating our sales force, technical support, engineers and other
personnel on changing technology, evolving industry standards and new product
offerings. There can be no assurance that we will be able to respond effectively
to technological changes, or new industry standards or will be successful in our
current or future product and/or service development efforts. From time-to-time
we may announce plans to develop new products, new product features and
services. Although we have announced and may in the future announce expected
shipment dates for certain products and features, or dates for launching new
services, schedules for high technology products and services are difficult to
predict, and there can be no assurance that we will achieve our expected
shipment dates or launch dates for new services. Our business could be adversely
affected if we were to incur significant delays, if any of our development
projects were to be unsuccessful or were not to gain market acceptance. Our
services need certain licenses and have to meet certain regulatory approvals for
us to be able to market them in different countries. Our products may also be
subject to safety and Federal Communications Commission standards in the United
States and other regulatory approvals. Failure to meet these standards or to
obtain those approvals/licenses could have an adverse impact on our business.

                                       15
<PAGE>   18

COMPETITION

     The computer networking industry in which we are engaged, both for
Madge.web services and Madge.connect products is intensely and increasingly
competitive and is significantly affected by service launches and product
introductions and the market activities of the participants in each respective
market.

     We expect that competition within the Madge.web field of managed network
and data network services will increase as the need for efficient data
communications becomes an increasingly important factor in the business
operations of multinational corporations. Competition will also increase as
telecommunications regimes are further liberalized, new technologies emerge and
domestic and international transmission capacity becomes more available. We
believe that established telecommunications and data networking companies and
new competitors such as large computer hardware, software, media and other
technology and communications enterprises will enter the market for managed
network and data services. Our ability to compete successfully will depend on
our continuing development and deployment of the Madge net, our development of
strategic alliances, our ability to attract customers and to hire and retain
skilled management and technical personnel. There can be no assurance that we
can succeed in this competitive market as competitive pressures increase.

     Our Madge.web current and prospective (based on publicly available
information) competitors include:-

     -  Providers of co-location or high-end Web site hosting and related
        services, including, AboveNet Communications, a wholly owned subsidiary
        of Metromedia Fiber Networks, Inc., Digex, Inc., Digital Island, Inc.,
        Exodus Communications(TM), Inc., Interliant, Inc., Intel Corporation and
        a large number of local and regional hosting providers. We believe our
        strength in competing against these companies is our global Overnet,
        Madge net, and our ability to tightly integrate the management of the
        network with the management of content and applications within the data
        centers, thereby providing a guaranteed service level for an integrated
        application/content/network solution. Our hosting solutions are normally
        part of an integrated managed service for finance and media companies,
        and therefore we do not compete directly with the generic co-location
        services.

     -  National and regional Internet service providers, including, Concentric
        Network Corporation(TM), (due to merge with NEXTLINK), British
        Telecommunications Plc. (BT), PSINet, Inc. and UUNet, an MCI WorldCom
        Company. Although we compete in specific cases with services of these
        companies (most of whom also offer web hosting), traditional Internet
        Service Provider (ISP) services such as Internet access are only a
        peripheral part of our offering. Our solutions are normally part of an
        integrated managed service for finance and media companies, and this
        specialization and in-depth vertical offering we consider sets us apart
        from normal ISPs.

     -  Companies focusing on customized Internet application services,
        including, Navisite, Inc., Corio, Inc., IBM Global Services, USWeb/CKS
        (due to merge with Whittman-Hart), and US Internetworking, Inc. We are
        active as an Application Service Provider (ASP) only for specialized
        Internet-centric applications (such as Internet advertising delivery)
        which form part of our integrated solutions for our target markets. As
        such, we do not believe we consider ourselves to compete directly with
        generic ASPs.

     -  Large system integrators and information technology outsourcing firms,
        including, Electronic Data Systems Corporation (EDS), and International
        Business Machines Corporation (IBM). We see these companies more as
        potential partners than as competitors, and believe that we can
        complement the solutions of large systems integrators through our
        specialized net-centric services, backed by our global Overnet. There is
        of course no guarantee we will reach any such agreements with these
        firms but even if we do not, we do not compete directly with them.

     -  Global telecommunications companies, including, BT, Cable & Wireless
        Plc, AT&T Corporation, and MCI WorldCom, Inc. We compete against large
        multinational telecommunication companies in specific instances but we
        believe we have successfully distinguished ourselves through our
        specialization and ability to provide a very high level of flexibility
        and customer service.

     -  Specialized telecommunication companies, including, Equant N.V. and
        IXnet, Inc. (due to be acquired by Global Crossing Ltd.) In the area of
        managed end-to-end network services, we compete on flexibility

                                       16
<PAGE>   19

       and customer service, and on the ability to integrate these services with
       other offerings of hosting and application management, all of which we
       believe Madge.web is able to offer.

     -  Streaming media distribution companies, including, iBeam Broadcasting(R)
        Corporation, Akamai Technologies, Inc. and Digital Island, Inc. Once we
        have the Madge Broadcast Network launched in mid-2000, we will compete
        with other streaming media distributors for this market but believe that
        through our operation of a fully-managed terrestrial streaming network,
        and our customer-sharing relationship with RealNetworks we will have a
        competitive advantage.

     -  Internet Advertising Service Providers, including DoubleClick. We
        compete in Internet advertising delivery services but believe we have a
        competitive advantage because of our exclusive European deployment of
        the Engage AdBureau service, backed up by the Engage Knowledge user
        profiling system.

     Our Madge.connect products compete on the basis of performance, features
and price. Other principal competitive factors include product reliability,
service, and compatibility with users' network architectures and flexibility of
use within a user's networking environment.

     In August 1999, we acquired the Token Ring business of Olicom, our primary
competitor in the market for Token Ring adapter remains IBM. To a lesser extent,
we also compete against 3Com Corporation (3Com) and other smaller providers of
adapter cards, such as Xircom, Inc. According to In-Stat, we were second in
world-wide market share for Token Ring adapters in 1999, although our combined
Madge and Olicom share of 41.3% for the fourth quarter 1999 brought us closer to
IBM's lead position of 49.6 %. In the market for Token Ring hubs, we principally
compete with IBM, Nortel Networks Corporation (Nortel), Cabletron Systems, Inc
and 3Com. According to estimates by In-Stat, we were fourth in world-wide market
share for Token Ring hubs in 1999. In the Token Ring switching market, our
primary competitors following our acquisition of Olicom's Token Ring business
are IBM, Nortel and Cisco Systems, Inc (Cisco). According to Dell'Oro, we had
the largest world-wide market share for Token Ring switches in 1999. In the ATM
backbone products market, our primary competitors are Fore Systems, a wholly
owned subsidiary of Marconi Plc, IBM, Cisco and Nortel. In the ATM adapter card
market, our primary competitor is Fore Systems.

     Our video networking products compete with video access and multipoint
conferencing unit ("MCU") manufacturers. Our primary competitors are Lucent
Technologies, Inc and Adtran, Inc in the video access market and Ezenia! Inc
(formerly VideoServer, Inc) in the MCU and gateway markets.

     IBM is both a key supplier of Token Ring network products and an
established vendor of computer and networking systems, products and services to
a substantial number of existing and potential end users of our products. IBM
and Cisco dominate the market for networking products and from time to time
these companies establish strategic working relationships with independent
networking vendors. The selection, on a preferential basis, of one or more of
our competitors for such relationships, could materially adversely affect our
business. In addition to IBM and Cisco, there exists substantial competition
from a number of established communications and computer networking companies,
including 3Com, Nortel and Cabletron, all of which have greater name
recognition, more extensive engineering, manufacturing, marketing and
distribution capabilities and greater financial, technological and personnel
resources than we do. We have also experienced competition from discount
providers of Token Ring adapter cards (including brokerage firms) and from other
competitive products and technologies, mainly Ethernet. We may also face
competition from potential new entrants into our segments of the computer
networking industry, many of which have substantially greater resources than we
do, however, this is unlikely in the Token Ring products sector given the mature
state of this market.

     We have experienced intense price competition in our markets, especially
for Token Ring adapter cards, and expect this competition to continue. Increased
competitive factors could force us to reduce prices further and could adversely
affect our market share and results of operations. New product architectures
permitting a significantly lower cost structure or significantly better
price/performance characteristics could also increase competition in the markets
in which we compete. There can be no assurance that we will be able to compete
successfully in the future against existing or potential competitors or
successfully adapt to changes in the market

                                       17
<PAGE>   20

for our products. An increase in competition could have a material adverse
effect on our business and results of operations.

INTELLECTUAL PROPERTY

     Our ability to compete successfully depends, in part, on our ability to
protect the proprietary technology contained in our products, services and
network. We currently rely on a combination of patent, trademark, copyright and
trade secret laws and contractual provisions to establish and protect
proprietary rights in our products. We generally enter into confidentiality
and/or license agreements with our employees, distributors, customers and
suppliers that limits access to and distribution of our proprietary information.
Olicom has warranted that the intellectual property we acquired from it does not
infringe third party rights. We also rely upon a number of third party licenses
that Olicom had in order to continue to produce their products. All material
licenses have been assigned.

     There can be no assurance that these protections will be adequate to deter
misappropriation of our technology or independent third-party development of
similar technologies. As at December 31, 1999 we held 20 United States patents,
have two patents under notice of allowance and numerous other patent
applications pending, all of which relate to Madge.connect products. There can
be no assurance that patents will issue with respect to the pending applications
or that any issued patents will be upheld as valid or will prevent the
development of competitive products. The laws of some countries do not protect
proprietary rights to the same extent as do the laws of the United States and
The Netherlands. Moreover, our efforts to enable our products to adhere to
industry standards can limit the opportunities to provide proprietary features
that may be protected. In addition, adherence to industry standards may require
licensing the proprietary technology of others. As is common in the computer
networking industry, we are subject to the risk of litigation alleging
infringement of third party intellectual property rights. We have received
letters alleging or implying that our products infringe certain patents of third
parties, including a letter from Lucent Technologies and a letter from Hitachi
and may receive similar claims in the future. In 1999 we entered into a three
year license with IBM whereby we licensed from them a number of their patents
and they licensed from us a number of our patents. There can be no assurance
that we will obtain a future license from IBM when this license expires or from
any other third party, if required in the future, on commercially acceptable
terms. We can similarly give no assurances that third parties will not assert
infringement claims against us in the future with respect to current or future
products. Any such assertion could require expending significant sums in
litigation, could require the payment of damages, and could require the
development of non-infringing technology or the acquisition of licenses to the
technology that is the subject of asserted infringement.

     Teleos Communications Inc., now known as Madge Networks (New Jersey) Inc.
(hereinafter "Madge New Jersey"), was sued in U.S. District Court for the
District of New Jersey on August 22, 1995 by Datapoint Corporation ("Datapoint")
prior to its acquisition by us in February 1996. Datapoint alleged that certain
of Madge New Jersey's multipoint videoconferencing products infringed two
patents owned by Datapoint. Datapoint had previously filed an action in the U.S.
District Court for the Northern District of Texas to enforce the same two
patents against PictureTel Corporation ("PictureTel"). In that case, a jury
determined in April 1998, after trial, that PictureTel did not infringe either
of the patents and that certain claims of both patents were invalid. Subsequent
to the PictureTel decision, Datapoint dismissed the suit against Madge New
Jersey in the District of New Jersey without prejudice. Datapoint's appeal in
the PictureTel case was unsuccessful and it is now out of time to make a further
appeal. Madge New Jersey has reserved its rights to counterclaim for patent
invalidity and unenforceability and non-infringement should any suit be
reinstituted.

MADGE.WEB SERVICES REGULATION

     Madge.web, in common with other international network services providers,
faces regulatory and market access barriers in various countries resulting from
restrictive laws, policies and licensing requirements. With the exception of
Singapore, our major markets are all now open to competition in relation to the
services we offer. However in some countries, a license is required, typically
for the operation of voice services. Some restrictive telecommunications laws
and practices give rise to residual constraints, risks and uncertainties and
this could affect our ability to fully develop and market our Madge.web
services.
                                       18
<PAGE>   21

     In all countries where we intend to operate through 2000 we either hold or
are applying for the required license with the government agency directly or
have an agreement with a local licensed carrier to allow us to offer our full
range of services. We are focusing the development of our services in the United
States, the United Kingdom, Germany, France, the Netherlands, Scandinavia,
Italy, Spain, Australia/New Zealand, Japan, Hong Kong and Singapore. In each of
these countries, with the exception of Singapore, the telecommunications sector
has been largely liberalized. The telecommunications market in Singapore is due
to be opened up to competition by April 2000. Countries in Latin America,
Eastern and Central Europe, and some parts of Asia, have begun the process of
liberalizing their telecommunications sectors and have already introduced
competition in some services. Countries elsewhere in Asia, the Middle East and
Africa are still characterized by public telecommunications operators with
exclusive rights, although data transmission services have started to be opened
to competition.

     We hold direct licenses to operate voice services in the United States (a
FCC214 licence) and in the United Kingdom (a ISVR license). In all other
countries we are currently entitled to operate voice, and, if required, other
services due to agreements we have with third party local carriers, who
themselves hold the required licences. We believe that we are substantially in
compliance with applicable telecommunications regulations in the markets we have
entered and in the markets we intend to enter in the next two quarters. In
countries where some or all telecommunications services are subject to a
monopoly we may be required to enter into an arrangement with the incumbent
Public Telecommunications Organization before providing services. Compliance
issues may exist for certain services in a number of countries. There can be no
assurance that we will be able to either enter into or maintain the requisite
commercial agreements in the countries in which we do currently or in the future
intend to offer services or will be able to comply with local regulatory
requirements at a reasonable cost or at all.

CORPORATE PRESENCE

     In a number of jurisdictions, we will be permitted to provide service to
local customers only after first establishing a corporate presence, by way of
either the incorporation of a subsidiary or the registration of a branch. It is
our policy to establish a local legal presence in each of the jurisdictions
where such a presence is legally required. For the places in Europe we have or
intend to have a sales team or a data center, we will need to establish such a
legal presence in order to apply for a registration under the European Union
Data Protection Regulations and to register domain names in each country. The
registration of a suitable domain name will be essential for us to be able to
sell our services into a new country.

ADDITIONAL LEGAL OBLIGATIONS

     In recent years there have been a number of United States and foreign
legislative and other initiatives seeking to control or affect the content of
information provided over the internet. Some of these initiatives would impose
criminal liability upon persons sending or displaying, in a manner available to
minors, indecent material or material harmful to minors. Liability would also be
imposed on an entity knowingly permitting facilities under its control to be
used for such activities or other illegal purpose. These initiatives would also
greatly increase our obligations with respect to the tracking, storage and
retrieval of information carried by our network. These initiatives may decrease
demand for internet access, deter the development of internet content,
substantially increase our costs of operation and/or have other adverse effects
our business.

EMPLOYEES

     As of December 31, 1999, we had approximately 749 full-time employees and
approximately 51 individuals working on a temporary or contract basis. Of the
749 full-time employees, approximately 418 employees were employed by
Madge.connect and approximately 216 were employed by Madge.web. Another 115
employees performed corporate and administrative functions. We believe that our
future success will depend in large part upon our ability to continue to
attract, retain, train and motivate highly skilled and dedicated employees. None
of our employees are represented by a labor union and we have not experienced a
work stoppage. We believe that our employee relations are very good.

                                       19
<PAGE>   22

     MADGE, THE MADGE LOGO, ACCESSSWITCH, COLLAGE, GROUPSWITCH, MADGE LAN VIDEO
GATEWAY, MADGE NET, MADGE PERSPECTIVE LAN TOOLS, RINGRUNNER, SMART DESKSTREAM,
SMART RINGSWITCH, SMART RINGSWITCH EXPRESS, SMART RINGSWITCH PLUS, SMARTCAU
PLUS, SMARTLAM, SMARTRAM AND VIDEOSWITCH ARE TRADEMARKS, AND IN SOME
JURISDICTIONS MAY BE REGISTERED TRADEMARKS, OF MADGE OR OUR AFFILIATED
COMPANIES. OTHER TRADEMARKS APPEARING IN THIS DOCUMENT ARE THE PROPERTY OF THEIR
RESPECTIVE OWNERS.

                                       20
<PAGE>   23

RISK FACTORS

     From time to time, in connection with the United States Private Securities
Litigation Reform Act 1995, reference may be made to risks addressed in our
public filings with the Securities and Exchange Commission. All the following
factors should be considered carefully before making an investment decision. If
any of the following risks actually occur, our business, financial condition or
results of operations could be materially adversely affected. In that event, the
trading price of our securities could decline, and you may lose part or all of
your investment.

           RISKS RELATED TO OUR FINANCIAL CONDITION AND OUR BUSINESS

- We have had difficulty managing our changing operations and acquisitions,
  which has harmed and may continue to harm our business

     We reorganized our operational and internal reporting structure in 1999
into two products and services subsidiary groups, Madge.connect and Madge.web,
which became separate legal entities at the end of 1999. Madge.connect is a
global supplier of our traditional Token Ring local area network and video
networking solutions. Madge.web provides global managed communications and
electronic content delivery with a focus on supporting the specialized
applications of the financial services and media/publishing industries. Our
ability to operate within this corporate structure, which includes our recent
acquisition of Gains within the Madge.web group, is untested and our Madge.web
business largely unproven. If we are unsuccessful developing the Madge.connect
and Madge.web businesses, our business and results of operations will be further
strained.

     We acquired several businesses over the last four years, including Lannet
Data Communications, Ltd. in November 1995, Teleos Communications, Inc. in
February 1996, Gains International in February 1999 and the Token Ring business
of Olicom A/S in August 1999. These companies previously operated independently,
and we have had some difficulties integrating their operations into our own. We
sold Lannet to Lucent Technologies in August 1998; however, we may experience
integration problems with regard to the remaining entities, which may be similar
to those experienced in the past or possibly new problems.

     The restructuring of our business, the sale of our Token Ring manufacturing
facility in 1998 and the sale of Lannet resulted in a net reduction in headcount
of approximately two-thirds between July 1997 and September 1998. Previous
centers of business, including San Jose, California, Tokyo and Hong Kong, were
substantially downsized or closed. These events have adversely affected and are
expected to continue to adversely affect our business. The challenge of managing
expenses to changing sources of revenue may lead us to adjust further our
business priorities and resource allocation. Further restructuring within the
Madge.connect group in the fourth quarter of 1999 created two specific groups,
one focusing on enterprise products and the other on new internet related access
products. The sales and marketing and research and development functions within
Madge.connect were also reorganised along these lines and costs will be reduced
by reducing the headcount in Madge.connect by approximately 14% during the three
quarters, starting the fourth quarter 1999. As a result a number of sales
offices in Europe will be closed or substantially downsized as we have moved to
a model of using independent sales agents in certain countries rather than our
own employees.

     As a result of our reorganisation, acquisitions and ongoing restructuring
and downsizing, our management personnel have had increased responsibilities,
which has strained and may continue to strain operational, management, financial
and other resources and weaken our ability to retain employees. In addition,
there can be no assurance that we will successfully integrate any future
acquisitions into our operations.

- We will need additional funds to support our growth.

     We did not generate cash from operations in the year ended December 31,
1999. Although spending levels are influenced by many factors, based upon our
current plans we will need to raise additional capital during the fiscal year
2000 or generate sufficient cash flow from operations to meet our anticipated
needs for working capital and capital expenditure. During the third quarter of
1999, we announced plans to invest approximately $85 million in Madge.web over
the next two years. We plan to fund this investment primarily through lease
funding and other sources of financing including $29.2 million in net proceeds
from our public offering of

                                       21
<PAGE>   24

common shares in January and February 2000. We are currently exploring the
options available to meet these investment plans including a public or private
offering of a portion of the shares of Madge.web or the issuance of additional
shares of Madge Networks N.V. We believe that we will be able to obtain
additional funds through private or public equity, bank credit facility or
capital lease facilities. There can be no assurance at this time that our
currently projected requirements will be sufficient or that our requirements
will remain the same given the fact our business is changing and we actively
review business priorities, resource allocation and new business opportunities.
If during such period, or thereafter, we are not successful in generating
sufficient cash flow from operations or in raising additional capital when
required in sufficient amounts and on acceptable terms, these failures could
have a material adverse effect on our business, results of operations and
financial condition. If we raise additional funds through the issuance of equity
or convertible debt securities of the parent company or any subsidiary, the
percentage ownership of our shareholders may be reduced.

- Our revenue, expenses, liquidity and operating results are subject to
  significant fluctuation, which could contribute to disparate quarterly
  results

     We have experienced quarterly fluctuations in operating results and
anticipate that these fluctuations will continue. Various factors contribute to
this uncertainty, including:

     -  the timing of operating expenditures;

     -  the size and timing of customer orders;

     -  the mix of products sold;

     -  the mix of distribution channels through which our products are sold;

     -  economic conditions specific to the personal computer and computer
        networking industries including any ongoing impact that Year 2000 issues
        may have on the purchase and installment of computer and computer
        networking equipment;

     -  the pattern of end-user purchasing cycles;

     -  the introduction of new products by us and our competitors; and

     -  general economic conditions;

     Typically in our industry, net sales in the first quarter of each year are
generally weak, and we believe that pattern may be exacerbated as a result of
Year 2000 issues. Madge.web enters into customer contracts, typically for one
year or more, that provide for either monthly or quarterly payments, and as such
Madge.web revenue is also subject to fluctuations as customer contracts end,
tariff rates change and new contracts are signed. Madge.connect generally
operates with little backlog, although we sometimes receive end-of-quarter
orders that are not shipped until the following quarter. Additionally, a
significant portion of our operating expenses are fixed expenditures, based
primarily on sales forecasts determined months or years in advance. If net sales
do not meet our expectations in any period, our operating results will be
adversely affected. Moreover, restructuring expenses have strained and may
continue to strain our cash resources. In the year ended December 31, 1999 we
did not generate cash from operations. If actual expenditures exceed estimates
or if the timing of the restructuring charges changes, we will need to expense
additional amounts in future quarters. Any one or combination of these factors
and our failure to adequately anticipate their effect could contribute to wide
period-to-period fluctuations and could materially and adversely affect our
business.

- We continue to be dependent upon revenue generated by our Token Ring business

     Our revenue has largely been derived from the sale and licensing of Token
Ring products and technology. We derived approximately 65%, 72% and 74% of our
net sales from our Token Ring products for the years ended December 31, 1997,
1998 and 1999, respectively. Thus, we depend upon the continued market
acceptance of Token Ring and related technologies. Our total sales of Token Ring
adapter cards have declined over for the last three years and we believe they
could continue to decline. If the Token Ring market remains static, or declines

                                       22
<PAGE>   25

further, our net sales and profitability could further decrease unless we are
successful in our strategy of building market share.

- We are dependent upon a limited number of suppliers and subcontractors

     The chipsets and components used in certain of our products are currently
available only from a single source or limited sources, for example, chipsets
used in certain of our Token Ring adapter card products that are currently
available only from Texas Instruments or NEC Corporation. The nature of the high
technology components business is such that the vendors supplying such chips and
components are few and it takes time and effort to identify and qualify
alternative sources for such components. While our operating results have not,
to date, been materially adversely affected by any shortages, we have
experienced delays in the receipt of certain of our key components. For
instance, we have encountered difficulties in acquiring adequate and timely
quantities of two of our custom Application Specific Integrated Circuits
("ASIC") used in certain of our products and in acquiring sufficient quantities
of memory. The inability to obtain sufficient key components as required, or to
develop alternative sources if and as required in the future, could result in
increased costs and delays or reductions in product shipments which, in turn,
could have a material adverse effect on our results of operations.

     Our continued reliance upon third-party manufacturers and suppliers
involves several potential risks, including the absence of adequate capacity,
the unavailability of or interruptions in access to certain process technologies
and reduced control over delivery schedules, manufacturing yields and costs. In
the event that a significant subcontract manufacturer or supplier were to become
unable or unwilling to continue to manufacture our key products in required
volumes, we would be required to identify and qualify acceptable additional
sources for its products or to manufacture the products ourselves. The
identification and qualification process could lead to delays and additional
costs and no assurances can be given that additional sources will become
available to us on a timely basis or that we could manufacture such products
ourselves on a timely or cost-effective basis. In addition, if any other
significant source partner were to establish a strategic working relationship
with one or more of our competitors or were to enter into direct competition
with us, our business could be materially adversely affected.

     The switches and routers used in the Madge net are provided primarily by
Nortel and Cisco. The components we use are, however, based on industry
standards, and alternate sources of comparable equipment exist. Our suppliers
also sell products to our competitors and may become competitors themselves.
There can be no assurance that we will not experience delays in receiving
components from our suppliers, or that such suppliers will not enter into
exclusive arrangements with our competitors or stop selling their products to us
at commercially reasonable terms or at all. In the event that we are required to
seek alternate sources of switches and routers, we are likely to experience
delays in obtaining the requisite equipment and may be required to pay higher
prices for such equipment. Such delays, while unlikely in management's view to
adversely affect the provision of services to our customers, is likely to result
in delays or increased costs of expanding and maintaining the Madge net.

- We rely on third-party suppliers of Internet capacity, the interruption or
  loss of which would harm our Madge.web operations

     Madge.web leases transmission capacity from many suppliers, both to link
customers to our network and for other transmissions. We could experience delays
or interruptions in transmission capacity from these suppliers. Additionally, we
may be unable to obtain such services within the requisite time periods or at a
reasonable cost. We may also be unable to purchase international capacity where
it is economically and legally feasible. Any failure to obtain transmission
capacity in a particular jurisdiction or any interruption of local access could
disrupt our service and harm our Madge.web operations and customer relationships
and could restrict our planned growth.

                                       23
<PAGE>   26

- We operate our Madge.web services in a regulated industry that is evolving
  quickly and we are unable to predict these changes, some of which could
  restrict our ability to generate revenue

     We hold direct licences to operate voice services in the United States (a
FCC214 licence) and in the United Kingdom (a ISVR licence). In all other
countries in which we operate we are currently entitled to operate voice, and,
if required, other services pursuant to agreements we have with third party
local carriers, who themselves hold the required licences. We believe that we
are substantially in compliance with applicable telecommunications regulations
in the markets we have entered and in the markets we intend to enter in through
2000. In countries where some or all telecommunications services are subject to
a monopoly we may be required to enter into an arrangement with the incumbent
public telecommunications organization before providing services. Compliance
issues may exist for certain services in a number of countries. There can be no
assurance that we will be able to either enter into or maintain the requisite
commercial agreements in the countries in which we currently or in the future
intend to offer services or will be able to comply with local regulatory
requirements at a reasonable cost or at all.

     In recent years there have been a number of United States and foreign
legislative and other initiatives seeking to control or affect the content of
information provided over the internet. Some of these initiatives would impose
criminal liability upon persons sending or displaying, in a manner available to
minors, indecent material or material harmful to minors. Liability would also be
imposed on an entity knowingly permitting facilities under its control to be
used for such activities or other illegal purpose. These initiatives would also
greatly increase our obligations with respect to the tracking, storage and
retrieval of information carried by our network. These initiatives may decrease
demand for internet access, deter the development of internet content,
substantially increase our costs of operation and/or have other adverse effects
our business.

- Loss or modification of our relationships with third-party distributors and
  resellers would harm our operations and sales

     A majority of our product sales are fulfilled and distributed world wide
through a network of distributors, value-added resellers and original equipment
manufacturers. Our indirect distribution channels vary by division and from
country to country. In the United States, the distribution channels include
major national distributors, such as Ingram Micro, Inc. and Tech Data
Corporation, Inc. In Europe, Asia and other markets, we sell our products
predominantly through distributors and resellers, but also in certain
circumstances, directly to end-users. We generally do not have long-term
contracts with these distributors and resellers. We must now also depend on
distributors of the former Olicom product line, many of which do not have an
established relationship with us. The loss of a distributor or reseller in a
particular region could impair our operations in that region. Any resulting
declines in sales could decrease revenue. Until alternative distribution
channels could be established, if at all, our business would suffer. The loss of
a significant number of key sales personnel would also affect our ability to
manage our distributors and resellers and continue to secure revenue from them.

- If we do not develop revenue-generating products from our research &
  development group, our business will be harmed

     To the extent that the level of our research and development expenditures
do not result in revenue-generating products, our results of operations could be
adversely affected. We focus a significant portion of our resources on the
development of products and services for unproven or developing technology
markets. We will face risks to our business in the event that the markets for
these new products and services do not develop as expected. We will also need to
invest in making our existing and future products easier to understand and
install and in educating our sales force, technical support, engineers and other
personnel on changing technology, evolving industry standards and new product
offerings. There can be no assurance that we will be able to respond effectively
to technological changes, or new industry standards or will be successful in our
current or future product and/or service development efforts. From time to time
we may announce plans to develop new products, new product features and
services. Although we have announced and may in the future announce expected
shipment dates for certain products and features, or dates for launching new
services, schedules for high technology products and services are difficult to
predict, and there can be no assurance that we will achieve our expected
shipment dates or launch dates for new services. Our business could be adversely
affected if we were to incur significant delays, if

                                       24
<PAGE>   27

any of our development projects were to be unsuccessful or were not to gain
market acceptance. Our services need certain licenses and have to meet certain
regulatory approvals for us to be able to market them in different countries.
Our products may also be subject to safety and Federal Communications Commission
standards in the United States and other regulatory approvals. Failure to meet
these standards or to obtain those approvals/licenses could have an adverse
impact on our business. Another key element to our success will be our ability
to ensure continued compatibility and interoperability of our products with
products from other leading networking vendors, as well as with various personal
computer architectures and network operating systems. To this end our testing
laboratories in the United Kingdom and New Jersey test our products for
interoperability with the products of other leading vendors and also performance
benchmark testing. There can be no guarantee we will be able to maintain this
compatibility.

- Our products or services may contain defects that may cause us to incur
  significant costs, divert our attention from product development and/or result
  in the loss of customers

     Networking products frequently contain undetected software and hardware
defects when first introduced or as new versions are released. Our products are
complex and defects may occasionally be found. In addition, our products are
often embedded in or deployed in conjunction with our customers' products, which
incorporate a variety of components produced by third parties. We may on
occasion sell products which are manufactured by others and for which we lack
resources and familiarity to trouble-shoot and service effectively. As a result,
when problems occur, it may be difficult to identify the source of the problem.
Our services rely upon an often complex series of network, connections and
transmissions, some of which are, or will be brand new and as yet untested. If
problems are found, in either the products or services division, we may divert
resources to address the problem and may incur significant damages or warranty
and repair costs. We may divert the attention our engineering personnel from
product and/or services development and we could face significant customer
relation problems or the loss of customers. These problems may then adversely
impact our business.

- Returns or warranty costs in excess of our budgeted amounts could harm our
  results of operations

     The terms of our reseller and distributor relationships subject us to
certain risks. We grant some resellers and distributors limited rights to
exchange unsold products for new purchases. Although we allow for projected
returns, these allowances may not be sufficient to offset product returns in the
future. In addition, we provide price protection to certain distributors. A
significant decrease in the price of our products, which exceed the amounts that
we have reserved, could have an adverse effect on our operating results.
Moreover, the warranty reserves may not cover actual costs. If any one of these
allowances is inadequate, our profitability could decrease.

- The loss of the services of our management and other key employees could harm
  our results of operations and inhibit growth

     Our success depends significantly on the contributions of Robert H. Madge,
our principal founder and chief executive officer. The loss of Mr. Madge's
services could harm our results of operations and competitive position. We also
depend upon a limited number of members of senior management and other key
employees. The loss of the services of key personnel following our 1997 and 1998
restructuring compromised and may continue to compromise the efficiency of our
operations. We may also lose key personnel as a result of the Madge.connect
restructuring in 1999. In addition, our acquisitions and subsequent
restructurings strained and may continue to strain operational, financial and
other resources and may weaken our ability to attract and retain employees. Due
to the level of technical and management expertise necessary to our industry, we
must recruit and retain highly qualified and well-trained personnel. Competition
for these employees is intense. If we cannot attract and retain qualified
personnel, our business and prospects will suffer.

- If we fail to establish or maintain relationships with parties that agree to
  resell our products on an original equipment manufacturer basis, our revenue
  will decrease

     We anticipate that a portion of our future revenue will be derived from
sales to customers that integrate our products into their own or resell our
products under their own brand names. Therefore, our revenue will be
increasingly dependent upon the ability and willingness of these original
equipment manufacturers to promote

                                       25
<PAGE>   28

products that incorporate our products and technology. Their ability and
willingness to do so is based upon a number of factors, including:

     -  our timely development of new products with increased reliability,
        functionality, speed and performance at acceptable prices to end users;

     -  the compatibility of our technology with changing industry standards;

     -  general industry competition; and

     -  overall economic conditions.

     Many of these factors are beyond our control. Additionally, these customers
may have profitability or other incentives to promote internal solutions or
competing products in lieu of products incorporating our technology. Sales by
these customers also could compete with our products, possibly impacting our
sales, reducing our margins and adversely affecting the marketability of our
products. Our inability to promote sales through these manufacturers could
decrease our revenue.

     We may also enter into agreements to obtain products from another
manufacturer or manufacturers for resale on a Madge-labeled or OEM basis, such
as our agreement with Intel. We are dependent in any such arrangement upon the
manufacturer of products to provide us with timely shipments on a cost-effective
basis, and may also depend upon our OEM supplier for technology, intellectual
property indemnification, support and other assistance. There is no guarantee
that an OEM supplier can or will continue to provide such things on a
cost-effective basis.

- We depend upon our international operations, which subject us to currency
  exchange rate fluctuations

     We derived approximately $252.6 million, $199.7 million and $145.0 million,
or 66%, 66% and 74%, of our total net sales from operations outside of the
Americas in the years ended December 31, 1997, 1998 and 1999, respectively. We
expect that international sales will continue to represent a majority of our net
sales. A significant portion of this international business outside of the
United States is conducted in currencies other than the U.S. dollar. As a
result, we are subject to currency exchange rate fluctuations and the associated
difficulty of administering business globally. Fluctuations in the value of
foreign currencies cause revenue or other numbers tied to the U.S. dollar to
change in comparison with similar numbers in previous periods. Due to the number
of currencies involved, the constantly changing currency exposures, and the
substantial volatility of currency exchange rates, we cannot predict the effect
of exchange rate fluctuations upon future operating results. These exchange rate
fluctuations could distort the results of our operations.

- We may not have adequately protected our intellectual property

     Our ability to compete successfully depends, in part, on our ability to
protect the proprietary technology contained in our products, services and
network. We currently rely on a combination of patent, trademark, copyright and
trade secret laws and contractual provisions to establish and protect
proprietary rights in our products. We generally enter into confidentiality
and/or license agreements with our employees, distributors, customers and
suppliers, that limit access to and distribution of our proprietary information.
Olicom has warranted that the intellectual property we acquired from it does not
infringe third party rights. We also rely upon a number of third party licenses
that Olicom had in order to continue to produce their products. All material
licenses have been assigned; however we have reached only oral agreements
regarding a number of licenses of lesser importance.

     We have received letters alleging or implying that our products infringe
certain patents of third parties, including a letter from Lucent Technologies
and a letter from Hitachi and may receive similar claims in the future. In 1999
we entered into a three year license with IBM whereby we licensed from them a
number of their patents and they licensed from us a number of our patents. There
can be no assurance that we will obtain a future license from IBM when this
license expires or from any other third party, if required in the future, on
commercially acceptable terms. We can similarly give no assurances that third
parties will not assert infringement claims against us in the future with
respect to current or future products. Any such assertion could require

                                       26
<PAGE>   29

expending significant sums in litigation, could require the payment of damages,
and could require the development of non-infringing technology or the
acquisition of licenses to the technology that is the subject of asserted
infringement.

- Undetected Year 2000 compliance issues could still harm our business

     We are still assessing possible impacts of the Year 2000 problem and may
still suffer as a result of the defects relating to Year 2000 compliance that
have not yet been detected. Worst-case scenarios for us could include material
difficulties in obtaining finished products from our contract manufacturers,
material difficulties processing orders for our products, material difficulties
with management information systems relied upon by us which might affect
collections, management decisions and financial reporting. There can be no
assurance that Year 2000 issues will not result in disruption to our business
resulting from third party suppliers' or service providers' business disruption,
will not result in additional risks to our product supply, internal systems or
will not result in claims from external users of our products, all of which
could result in a material adverse effect on our business, operating results and
financial position.

- Our common share price has been, and is likely to continue to be, volatile and
  could drop unexpectedly

     The trading price of our common shares has been volatile and may continue
to be volatile in response to the following factors:

     -  quarterly variations in our operating results;

     -  announcements of technical innovations, new products or services by us
        or our competitors;

     -  investor perception of us, the market we operate in or the Internet in
        general;

     -  changes in financial estimates by securities analysts; and

     -  general economic and market conditions.

     The stocks of many technology companies have experienced significant
fluctuations in trading price and volume. Often these fluctuations have been
unrelated to operating performance. Declines in the market price of our common
shares could also materially adversely affect employee morale and retention, our
access to capital and other aspects of our business.

- If our share price remains volatile, we may become subject to securities
  litigation, which is expensive and could divert our resources

     In the past, following periods of market volatility in the price of a
company's securities, security holders have instituted class action litigation.
Many Internet-related companies have been subject to this type of litigation. If
the market value of our common shares experiences adverse fluctuations, and we
become involved in this type of litigation, regardless of the outcome, we could
incur substantial legal costs and our management's attention could be diverted,
causing our business to suffer.

                     RISKS RELATED TO OUR CAPITAL STRUCTURE

- Our founder continues to exercise control over us and could have interests
  that differ from shareholders' interests

     Various trusts established by Robert Madge, our principal founder and chief
executive officer indirectly owned approximately 47.4% of the outstanding common
shares as of December 31, 1999. Therefore, the trustees have the power to
control or influence matters submitted for shareholder approval, including the
election of directors. Certain transactions, which also require shareholder
approval, will be more difficult to consummate without the support of the
trusts. Such transactions include proxy contests, acquisitions, tender offers,
open market purchase programs or other purchases of common shares that could
give our shareholders the opportunity to realize a premium over the
then-prevailing market price for their shares. In addition, Mr. Madge personally

                                       27
<PAGE>   30

holds options to purchase common shares, of which options with respect to 1.1%
of our outstanding common shares have vested or will vest within 60 days from
December 31, 2000.

- Our charter documents and the laws of The Netherlands could make it more
  difficult for a third party to acquire us

     The shareholders have authorized our Management Board to issue preferential
shares and common shares for a fixed period of time without further shareholder
approval. The issuance of such preferred shares and common shares, while
providing flexibility in connection with possible acquisitions and other
corporate purposes, could have the effect of making it more difficult for a
third party to acquire, or of discouraging a third party from acquiring, a
majority of the outstanding voting shares of Madge.

Because judgments against Netherlands corporations are not enforceable in the
United States, you may have difficulty asserting claims against us

     Judgments of United States courts, including judgments against us or our
officers and directors based upon allegations of violations of United States
federal or United States state securities laws, may not be enforceable in The
Netherlands or elsewhere outside the United States.

ITEM 2.  DESCRIPTION OF PROPERTY.

     Our registered office in The Netherlands is located in Hoofddorp, and we
have more than 40 other offices around the world.

     Our European headquarters are located in Wexham, England where we lease
four buildings. These buildings were all leased in December 1996 and our leases
for the four buildings will expire in 2021 with an option to terminate in 2011.
The four buildings comprise approximately 100,000 square feet, approximately
44,000 square feet of which is subleased for periods that expire in 2003 through
2011. These buildings house administrative, sales and marketing, service and
support, the principal research and development facility and operational
facilities and incorporate both Madge.web and Madge.connect personnel.

     Madge.web's European network service and support facilities are located in
London, England and Wokingham, Berkshire, England and comprised of an aggregate
of approximately 23,000 square feet. The London premises, which also houses part
of Madge.web's administrative facilities, were leased in August 1999, which
lease will expire in September 2007. The Wokingham premises were leased in
December 1999, and which lease will expire in December 2014 with an option to
terminate in June 2009.

     Madge.web's U.S. network service and support facilities are located in New
York, New York and are comprised of approximately 24,000 square feet. The lease
for this facility expires in February 2015.

     Madge.connect's U.S. headquarters are located in Dallas, Texas and are
comprised of approximately 5,500 square feet. The building houses
administrative, sales and marketing, service and support and operational
activities. The lease for this building expires in February 2005.

     We believe that our facilities in Europe are adequate to meet our current
business requirements, and that suitable additional space will be available as
needed to accommodate further physical expansion of corporate operations and for
additional sales and support offices.

     An aggregate of approximately 130,000 square feet of our Eatontown, New
Jersey and San Jose facilities in the U.S. are currently surplus to the
requirements of our U.S. operations and we are in discussions to sublet or
assign these facilities.

     See Notes 3 and 6 of Notes to Consolidated Financial Statements for
additional information regarding our properties and related commitments.

                                       28
<PAGE>   31

ITEM 3.  LEGAL PROCEEDINGS.

     In August 1996, a class action lawsuit was filed in the U.S. District Court
for the Northern District of California, San Jose Division, naming Madge, Madge
Networks, Inc. and certain of our former and current executive officers as
defendants. The complaint alleged that the defendants misrepresented or failed
to disclose material facts about our operations, anticipated financial results
and the anticipated success of our products, in violation of the U.S. federal
securities laws. The suit was brought by two individuals, purportedly as
representatives of a class of purchasers of our stock during the period from
October 12, 1995 to June 13, 1996. In November 1996 and August 1997, the
plaintiffs filed amended complaints, each of which the Court dismissed without
prejudice. On February 6, 1998, the plaintiffs filed another amended complaint.
On April 3, 1998, we and the individual defendants moved to dismiss that
complaint. A hearing on that motion was held on July 17, 1998. Before the Court
ruled on that motion to dismiss, plaintiffs sought permission from the Court to
file another amended complaint. The Court granted plaintiffs request and on
February 4, 2000 the plaintiffs filed a fifth amended complaint. On March 3,
2000, we moved to dismiss the most recent complaint. We believe the allegations
in the complaints to be without merit and intend to continue to defend against
the newly amended complaint vigorously.

     The suit brought by Datapoint Corporation against us for patent
infringement has been dismissed. This is more fully described in "Item 1 -
Intellectual Property".

     In addition, from time to time, Madge and our subsidiaries are involved in
disputes relating to claims arising out of its operations in the normal course
of business. Among other things, such claims may relate to allegations of patent
infringement, employment-related claims, product warranty claims and service
claims. If the class action litigation described above were to be decided
against us, our results of operations and financial position could be adversely
affected. In spite of this claim, as of the date of this report, we are not a
party to any legal proceedings the adverse outcome of which, in management's
opinion, individually or in the aggregate, would have a material adverse effect
on our financial position. See also "Description of Business - Risk Factors -
We may not have adequately protected our intellectual property."

ITEM 4.  CONTROL OF REGISTRANT.

     The following table sets forth certain information regarding the beneficial
ownership of common shares as of December 31, 1999 by (i) each person who is
known to beneficially own more than 5% of our outstanding common shares; (ii)
each director of Madge Networks N.V.; (iii) each of the four most highly
compensated executive officers of Madge Networks N.V.; (iv) all of the directors
and the individuals listed under Item 10 below together as a group.

<TABLE>
<CAPTION>
                                                            AMOUNTS AND NATURE OF    PERCENT
                                                           BENEFICIAL OWNERSHIP(1)   OF CLASS
                                                           -----------------------   --------
<S>                                                        <C>                       <C>
Robert H. Madge(2).......................................        19,639,583            47.4%
  Madge Networks N.V.
  Schiphol Airport
  Polaris Avenue 23
  2132 JH Hoofddorp
  the Netherlands
Michael D. Wilson(3).....................................           180,416                *
Denis H. Pomroy(4).......................................           155,000                *
Michael D. Fischer(5)....................................           103,878                *
Michael F. Keilty(6).....................................            95,207                *
Christopher Bradley(7)...................................            28,802                *
Management and directors as a group (6 Persons)..........        20,202,886           48.85%
</TABLE>

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

*   Less than one percent.

(1)  The stock ownership information has been furnished to us by the named
     persons. Except as described below, each person has sole voting power and
     investment power with respect to the common shares listed in the


                                       29
<PAGE>   32

     table. Percentages in the table are based on 40,510,554 common shares
     issued and outstanding as of December 31, 1999, plus such number of common
     shares as the indicated person or group has the right to purchase pursuant
     to outstanding options exercisable within 60 days after such date.

(2)  Includes (i) 100,750 shares owned by a registered U.K. charitable trust,
     the income and assets of which may only be used for charitable purposes,
     established by Mr. Madge who serves as a trustee, and (ii) 19,083,000
     shares owned directly or indirectly by trusts established by Mr. Madge for
     the direct or indirect benefit of, among others, members of Mr. Madge's
     immediate family and for which trusts Mr. Madge does not act as a trustee.
     Mr. Madge disclaims beneficial ownership of all such shares. Includes
     455,833 shares that may be acquired pursuant to the exercise of fully
     vested options that are currently exercisable or are exercisable within 60
     days after December 31, 1999. Mr. Madge is Chairman of the Board, Managing
     Director, President and Chief Executive Officer of Madge and Chief
     Executive Officer of Madge.web.

(3)  Includes 159,998 shares that may be acquired pursuant to the exercise of
     fully vested options that are currently exercisable or are exercisable
     within 60 days after December 31, 1999. Mr. Wilson is Senior Vice
     President, of Madge and Chief Executive Officer of Madge.connect.

(4)  Includes 110,000 shares that may be acquired pursuant to the exercise of
     fully vested options that are currently exercisable or are exercisable
     within 60 days after December 31, 1999. In addition, 45,000 common shares
     are held by Equitable Investments Ltd., a company within family trusts
     established by Mr. Pomroy and over which Mr. Pomroy disclaims beneficial
     ownership. Mr. Pomroy is a supervisory director of Madge.

(5)  Includes 10,000 shares that may be acquired pursuant to the exercise of
     fully vested options that are currently exercisable or are exercisable
     within 60 days after December 31, 1999. Mr. Fischer is a supervisory
     director of Madge.

(6)  Includes 88,541 shares that may be acquired pursuant to the exercise of
     fully vested options that are currently exercisable or are exercisable
     within 60 days after December 31, 1999. Mr. Keilty is Senior Vice President
     of Madge and Chief Operating Officer of Madge.web.

(7)  Includes 24,582 shares that may be acquired pursuant to the exercise of
     fully vested options that are currently exercisable or are exercisable
     within 60 days after December 31, 1999. Mr. Bradley is Chief Financial
     Officer of Madge.

ITEM 5.  NATURE OF TRADING MARKET.

     Our common shares are listed under the symbol "MADGF" on the Nasdaq
National Market. Our common shares are not listed on any other exchange.

     The price range of our common shares for the two years ended December 31,
1999, as reported on the Nasdaq National Market, is as follows:

<TABLE>
<CAPTION>
                                                                 HIGH      LOW
                                                                ------    ------
<S>                                                             <C>       <C>
1998
First Quarter...............................................    $7.063    $3.250
Second Quarter..............................................     7.750     3.938
Third Quarter...............................................     6.000     2.625
Fourth Quarter..............................................     5.188     1.750
1999
First Quarter...............................................    $4.500    $2.500
Second Quarter..............................................     4.000     2.250
Third Quarter...............................................     3.563     2.000
Fourth Quarter..............................................    10.250     1.438
</TABLE>

     On December 31, 1999 there were approximately 511 holders of record of our
common shares. Of these holders of record, approximately 219 (holding
approximately 44% of our common shares) were listed on our share register with
addresses outside the United States.
                                       30
<PAGE>   33

ITEM 6.  EXCHANGE CONTROLS AND OTHER LIMITATIONS AFFECTING SECURITY HOLDERS.

     Currently there are no exchange control limitations in the Netherlands
affecting payments by us to non-residents of the Netherlands with regard to the
remittance of dividends, or any other payments to or from non-resident holders
of our common shares. There are withholding tax requirements, see below
"Taxation". Currently there are no limitations on the right of non-resident or
foreign owners to hold or vote our common shares imposed by Dutch law or by our
Articles of Association.

ITEM 7.  TAXATION.

     The following discussion is a summary of certain U.S. federal income tax
and Dutch tax consequences to a holder of common shares. The discussion does not
deal with all possible tax consequences relating to an investment in the common
shares. In particular, the discussion does not address the tax consequences
under state, local and other (e.g. non-U.S., non-Dutch) tax laws. Accordingly,
each holder of common shares are advised to consult their own tax advisor to
determine the U.S. federal income tax and Dutch tax consequences arising out of
the purchase, ownership and disposition of the shares. The descriptions of the
Dutch tax laws and U.S. federal income tax laws and practices set forth below
are based on the statutes, treaties, regulations, rulings, judicial decisions
and other authorities in force and applied in practice on the date hereof, all
of which are subject to change (possibly with retroactive effect) and differing
interpretations.

DUTCH TAXATION

     The following is a summary of material Dutch tax consequences to an owner
of common shares who is not, or is not deemed to be, a resident of The
Netherlands for purposes of the relevant tax codes (a "non-resident
Shareholder"). The summary does not address taxes imposed by The Netherlands and
its political subdivisions, other than the dividend withholding tax, individual
income tax, corporate income tax, net wealth tax, and gift and inheritance tax.

DUTCH WITHHOLDING TAX ON DIVIDENDS

     We do not expect to pay dividends in the foreseeable future. To the extent
that dividends are distributed by us, such dividends would be subject under
Dutch tax law to withholding tax at a rate of, generally, 25%. Dividends
comprise, for example, cash and non-cash distributions, undisclosed profit
distributions and revenue from liquidation proceeds in excess of, for Dutch tax
purposes, recognized paid-in capital. Stock dividends are also subject to
withholding tax unless distributed out of our paid-in share premium as
recognized for Dutch tax purposes. The repayment of nominal share capital may
also count as dividends under certain circumstances.

     No withholding tax applies on the sale or disposition of common shares to
persons other than us and our affiliates.

     A non-resident shareholder can be eligible for a reduction or a refund of
Dutch dividend withholding tax under a tax convention, which is in effect
between the country of residence of the shareholder and The Netherlands,
provided that certain conditions are met. The Netherlands has concluded such
conventions with, among others, the United States, most European Community
countries, Canada, Switzerland and Japan. Under most of these conventions, Dutch
dividend withholding tax is reduced to a rate of 15% or less.

     Under the Tax Convention between the United States and The Netherlands,
dividends paid by us to an individual shareholder resident in the United States
or a corporate shareholder organized under the laws of the United States or any
State or territory thereof (each a "U.S. Shareholder") are generally eligible
for a reduced 15% rate of withholding tax unless such U.S. Shareholder has a
permanent establishment in The Netherlands with which the common shares are
effectively connected. The dividend withholding tax rate is reduced to 5% in the
case of certain U.S. corporate shareholders owning at least 10% of the voting
power of the company paying the dividend. The Tax Convention provides for a
complete exemption for dividends received by exempt pension trusts and exempt
organizations, as defined therein.

                                       31
<PAGE>   34

DUTCH INDIVIDUAL INCOME TAX AND CORPORATE INCOME TAX

     In general, a shareholder not resident nor deemed to be resident in The
Netherlands will not be subject to Dutch individual income tax or corporate
income tax with respect to dividends distributed by us on the common shares or
with respect to capital gains derived from the sale or disposal of common
shares, provided that:

     1. the non-resident Shareholder does not carry on a business in The
        Netherlands through a permanent establishment or a permanent
        representative or a fixed place to which or to whom the common shares
        are attributable; and

     2. the non-resident Shareholder does not have, directly or indirectly, a
        substantial interest (aanmerkelijk belang) or a deemed substantial
        interest (fictief aanmerkelijk belang) in Madge or, in the event that
        the non-resident Shareholder has such an interest, it is attributable to
        an enterprise carried on by him or for his account according to Dutch
        tax principles.

     A non-resident Shareholder generally has a substantial interest in our
share capital if he, solely or with his spouse or with certain persons sharing
his residence (for example, a non-married partner), directly or indirectly:

     1. owns shares, or holds other rights, amounting to 5% or more of the total
        issued share capital (or 5% or more of the issued shares in a class of
        ordinary shares); or

     2. holds rights to acquire shares that have or have not yet been issued
        amounting to 5% or more of the total issued share capital (or of the
        issued share capital of a class of shares); or

     3. holds rights to share in our profit or share in our liquidation revenue
        amounting to 5% or more of annual profits or of our liquidation revenue.

     A deemed substantial interest exists, for example, when the non-resident
Shareholder does not hold any substantial interest as described above but a
participation of this type is held by a direct relative (for example, children)
or by a direct relative of his spouse, or when the non-resident Shareholder has
had a (deemed) substantial interest at a time during the last 10 years.

     The above description does not include all cases in which a deemed
substantial interest can occur. In case of doubt, Shareholders should seek the
advice of their tax advisers.

     If the non-resident Shareholder has a (deemed) substantial interest in
Madge in accordance with the above-mentioned regulations, income from this
(deemed) substantial interest is generally subject to Dutch tax at a flat rate
tax of 25% for natural persons and 35% for enterprises.

     As a general rule, under a tax convention which is in effect between the
country of residence of the non-resident Shareholder and The Netherlands, such
non-resident Shareholder may benefit from treaty protection against Dutch income
tax under the "substantial interest" regulations on any gains from the
alienation of Shares, depending on the contents of the specific tax convention
and provided that certain conditions are met.

DUTCH NET WEALTH TAX

     A shareholder not resident in The Netherlands who is an individual is not
subject to Dutch net wealth tax with respect to the common shares, provided the
non-resident shareholder does not carry on a business in The Netherlands through
a permanent establishment or a permanent representative to which or to whom the
common shares are attributable. Joint stock corporations are not subject to
Dutch net wealth tax.

DUTCH GIFT AND INHERITANCE TAX

     A gift or inheritance of common shares from a non-resident Shareholder will
not be subject to Dutch gift and inheritance tax, provided that the Shareholder
does not own a business which is in whole or in part, carried on through a
permanent establishment or a permanent representative in The Netherlands to
which or to whom the shares are attributable.

     For the purposes of Dutch gift or inheritance tax, an individual of Dutch
nationality is deemed to be a resident of The Netherlands if he has been a
resident of The Netherlands at any time during the ten years
                                       32
<PAGE>   35

preceding the time of the gift or death. For the purposes of Dutch gift tax any
person, regardless of nationality, is deemed to be a resident of The Netherlands
if he/it has resided therein at any time in the 12 months preceding the time of
the gift. Any gift made by an individual within 180 days of the death of this
individual while being resident or deemed resident in The Netherlands will be
covered by the provisions of inheritance tax.

UNITED STATES FEDERAL INCOME TAX

     This summary of principal United States federal income tax consequences of
an investment in common shares does not discuss all of the tax consequences that
may be relevant to a particular investor, a "U.S. Person" (defined below) who is
not a "U.S. Holder" (defined below) or to certain investors subject to special
treatment under U.S. tax laws, such as banks, insurance companies, dealers and
tax-exempt entities, and persons for whom the U.S. dollar is not their
functional currency.

     This discussion is limited to those investors who are "U.S. Persons" that
hold common shares worth less than 10 percent of the value of Madge (a "U.S.
Holder"). For these purposes, a "U.S. Person" means: (i) an individual citizen
or resident of the United States, (ii) a corporation, partnership or other
entity created or organised in or under the laws of the United States or any
political subdivision thereof, (iii) an estate the income of which is subject to
U.S. federal income taxation regardless of its source or (iv) a trust if a court
within the United States is able to exercise primary supervision over the
administration of the trust and one or more U.S. persons have the authority to
control all substantial decisions of the trust.

TAXATION OF DIVIDENDS

     Distributions (whether in cash or stock), to the extent paid out of the
current or accumulated earnings and profits of Madge, as determined under U.S.
tax accounting principles, will be treated as dividends for U.S. federal income
tax purposes. Such dividends (including Netherlands withholding taxes (see
"Dutch Withholding Tax on Dividends"above) deducted therefrom) will be taxed to
U.S. Holders as ordinary income and will not be eligible for the dividends
received deduction generally available to corporate U.S. shareholders. In
addition, such dividends generally will be considered (i) dividends from sources
outside of the United States for foreign tax credit purposes and (ii) in the
"passive income" or "financial services income" foreign tax credit basket. Such
dividends will not be subject to U.S. federal withholding tax and generally will
not be subject to U.S. federal income tax in the hands of persons who are not
U.S. Holders unless such dividends are effectively connected with the conduct of
a trade or business in the United States. Distributions in excess of current and
accumulated earnings and profits will be treated as a return of capital to the
extent of a U.S. Holder's basis in the common shares and thereafter as capital
gain. A U.S. Holder may elect annually either to deduct The Netherlands
withholding tax (see "Dutch Taxes") from its income or take the withholding
taxes as a credit against its U.S. federal income tax liability, subject to U.S.
foreign tax credit limitation rules.

TAXATION OF CAPITAL GAINS

     Any gain or loss on a sale or exchange of common shares by a U.S. Holder
will generally be capital gain or loss for U.S. federal income tax purposes if
such common shares are held as a capital asset. If held for more than one year,
such gain or loss will generally be long-term capital gain or loss. The amount
of the gain or loss will be the difference between the amount realised and the
U.S. Holder's adjusted tax basis in the common shares. Holders of common shares
who are not U.S. Persons will generally not be subject to U.S. income tax on the
gain or loss realised on disposition unless such gain or loss is effectively
connected with the conduct of a trade or business in the United States or, in
the case of an individual, such holder is present in the United States for 183
or more days in the taxable year of such disposition and certain other
conditions are met.

PASSIVE FOREIGN INVESTMENT COMPANIES

     Based on the manner in which we currently operate our business, we believe
that Madge is not a passive foreign investment company ("PFIC") for U.S. federal
income tax purposes. If, however, we were determined to be a PFIC, then certain
U.S. Holders may, with respect to their common shares, have to (i) pay an
interest charge

                                       33
<PAGE>   36

on distributions and gains that are deemed as having been deferred and/or (ii)
recognise ordinary income on dispositions that, but for the PFIC provisions,
would have been treated as long-term or short-term capital gain.

     A U.S. Holder who owns Madge shares in any year in which Madge is a PFIC
must file Internal Revenue Service Form 8621 with the Holder's tax return for
the year.

FOREIGN PERSONAL HOLDING COMPANIES

     We or any of our non-U.S. subsidiaries may be classified as a "foreign
personal holding company" ("FPHC") if in any taxable year five or fewer persons
who are U.S. citizens or residents own more than 50% of our common shares (a
"U.S. group") and more than 60% of the gross income (50% after the first year)
of Madge or of any of our non-U.S. subsidiaries consists of passive income for
purposes of the FPHC rules. Because substantially all of our income is likely to
consist of dividends from subsidiaries, which generally is passive income for
purposes of the FPHC rules, we are likely to meet the income test. Similarly, if
more than 60% of the gross income of a non-U.S. subsidiary of Madge were to
consist of dividends, interest, royalties (other than active business computer
software royalties) or other types of passive income, the subsidiary would meet
the FPHC income test.

     If we or any of our subsidiaries are or become an FPHC, each U.S. Holder
(including a U.S. corporation) who held Madge shares on the last day of the
taxable year, or, if earlier, the last day of its taxable year on which a U.S.
group existed with respect to Madge would be required to include in gross income
as a dividend such shareholder's pro rata portion of the undistributed income of
Madge or the subsidiary, even if no cash dividend were actually paid. In such
case, if we were the FPHC, a U.S. Holder would be entitled to increase its tax
basis in the shares of Madge by the amount of a deemed dividend from us. If a
subsidiary of Madge were the FPHC, an U.S. Holder in us should be afforded
similar relief, although the law is unclear as to the form of the relief.

     Various family trusts established by Robert Madge own approximately 47.4%
of our common shares. If under FPHC rules these shares were deemed to be held by
Mr. Madge and he were to become a U.S. citizen or resident, or were to marry a
U.S. citizen or resident, a U.S. group might then exist based in part upon the
shares considered owned by him. Moreover, if under FPHC rules the trusts' shares
were deemed to be held by a member of Mr. Madge's family and the family member
were to become a U.S. citizen or resident, or were to marry a U.S. citizen or
resident, such shares might be considered as part of a U.S. group. Although we
believe that at the present time no U.S. group exists, and that no U.S. group
will exist, we can give no assurances regarding future ownership of our shares
by members of the Madge family, or future changes in citizenship or residence of
Madge family members which could contribute to the creation of a U.S. group and
thus cause Madge to be treated as an FPHC. Moreover, we can give no assurance
that we will have timely knowledge of the formation of a U.S. group. In this
regard, we do not assume any obligation to make timely disclosure with respect
to such status. Moreover, since we do not intend to maintain our books and
records in accordance with U.S. tax accounting principles, U.S. Holders may not
have information available with which to determine accurately any deemed
dividend in the event we become an FPHC and would have to estimate such deemed
dividend. If we become an FPHC, a U.S. Person who acquires shares from a
decedent would be denied the step-up of tax basis of such shares to fair market
value on the decedent's date of death which otherwise would have been available
and instead would have a tax basis equal to the lower of fair market value or
the decedent's basis. As noted above, certain U.S. tax consequences turn on the
composition of the income of Madge and our subsidiaries. The tax law is not
entirely clear as to the proper classification of all relevant types of income,
which Madge and our subsidiaries may realize. Accordingly, there can be no
assurance that management's expectations described above will be fulfilled.

UNITED STATES BACKUP WITHHOLDING

     A holder of common shares may be subject to "backup withholding" at the
rate of 31% with respect to dividends paid on such common shares if such
dividends are paid by a paying agent, broker or other intermediary in the United
States or by a U.S. broker or certain United States-related brokers to such
holder outside the United States. In addition, the proceeds of sale, exchange or
redemption of common shares may be subject to backup withholding if such
proceeds are paid by a paying agent, broker or other intermediary in the United
States.

                                       34
<PAGE>   37

     Backup withholding may be avoided by the holder of common shares if such
holder (i) is a corporation or comes within certain other exempt categories or
(ii) provides a correct taxpayer identification number, certifies that such
holder is not subject to backup withholding and otherwise complies with the
backup withholding rules. In addition, holders of common shares who are not U.S.
Persons are generally exempt from backup withholding, although such holders may
be required to comply with certification and identification procedures in order
to prove their exemption.

     Any amounts withheld under the backup withholding rules from a payment to a
holder will be refunded (or credited against the holder's U.S. federal income
tax liability, if any) provided the amount withheld is claimed as federal taxes
withheld on the holder's U.S. federal income tax return relating to the year in
which the backup withholding occurred. A holder who is not otherwise required to
file a U.S. income tax return must generally file a claim for refund (or, in the
case of holders who are not U.S. persons, an income tax return) in order to
claim refunds of withheld amounts.

ITEM 8.  SELECTED FINANCIAL DATA.

     The following selected consolidated financial data is qualified by
reference to and should be read in conjunction with our Consolidated Financial
Statements and Notes thereto included elsewhere in this Annual Report on Form
20-F. The statements of operations data set forth below for the years ended
December 31, 1997, 1998 and 1999 and the balance sheet data as of December 31,
1998 and 1999 have been derived from the audited Consolidated Financial
Statements of Madge included elsewhere in this Annual Report, which have been
audited by Ernst & Young, independent auditors. The statements of operations
data set forth below for the years ended December 31, 1995 and 1996 and the
balance sheet data as of December 31, 1995, and 1996 and 1997 have been derived
from audited consolidated financial statements not included in this Annual
Report.

STATEMENT OF OPERATIONS DATA:
(includes Lannet Division results to August 27, 1998 inclusive. At that date the
Lannet Division was sold)

<TABLE>
<CAPTION>
                                                        YEAR ENDED DECEMBER 31,
                                          ----------------------------------------------------
                                            1995       1996       1997       1998       1999
                                          --------   --------   --------   --------   --------
                                                (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S>                                       <C>        <C>        <C>        <C>        <C>
Net sales..............................   $427,350   $482,101   $384,059   $301,372   $196,152
Cost of sales..........................    197,268    243,133    201,729    147,103    115,547
                                          --------   --------   --------   --------   --------
Gross profit...........................    230,082    238,968    182,330    154,269     80,605
Operating expenses:
Sales and marketing....................    102,282    142,227    116,204     81,667     73,145
Research and development...............     47,617     67,326     67,906     48,021     33,230
General and administrative.............     20,961     28,386     27,542     18,556     23,365
Special charges (gain).................     39,111     27,846     48,733    (34,837)    (7,565)
                                          --------   --------   --------   --------   --------
Total operating expenses...............    209,971    265,785    260,385    113,407    122,175
                                          --------   --------   --------   --------   --------
Income (loss) from operations..........     20,111    (26,817)   (78,055)    40,862    (41,570)
Net interest income....................      5,105      2,266         31      3,272      2,195
                                          --------   --------   --------   --------   --------
Income (loss) before income taxes......     25,216    (24,551)   (78,024)    44,134    (39,375)
Provision (benefit) for income taxes...     27,201     (4,054)    (2,052)     3,085        938
Extraordinary charge...................         --         --         --      5,226         --
                                          --------   --------   --------   --------   --------
Net income (loss)......................   $ (1,985)  $(20,497)  $(75,972)  $ 35,823   $(40,313)
                                          ========   ========   ========   ========   ========
Net income (loss) per share
Basic..................................     $(0.05)    $(0.47)    $(1.69)     $0.81     $(1.00)
Diluted................................     $(0.05)    $(0.47)    $(1.69)     $0.80     $(1.00)
Shares used in per share calculation
Basic..................................     42,777     43,976     45,085     44,404     40,420
Diluted................................     42,777     43,976     45,085     44,624     40,420
</TABLE>

BALANCE SHEET DATA:

<TABLE>
<CAPTION>
                                                              DECEMBER 31,
                                          ----------------------------------------------------
                                            1995       1996       1997       1998       1999
                                          --------   --------   --------   --------   --------
                                                             (IN THOUSANDS)
<S>                                       <C>        <C>        <C>        <C>        <C>
Cash and cash equivalents..............   $ 74,652   $ 31,590   $ 62,106   $130,494   $ 19,471
Working capital........................    133,210     96,594     77,715     87,118    (24,171)
Total assets...........................    324,278    294,455    251,749    224,992    192,498
Long term obligations, net of current
  maturities...........................      2,279      1,673     35,239        899      3,563
Shareholders' equity...................   $175,863   $168,177   $ 99,596   $116,393   $ 69,176
</TABLE>

                                       35
<PAGE>   38


ITEM 9.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
         OF OPERATIONS.

GENERAL

     Madge Networks N.V. ("Madge") is a global managed network services and
product solutions provider specializing in mission-critical enterprise needs.
Our goal is to optimize the implementation of enterprises' voice, video and data
networks with the ultimate aim of converging all networking needs on Internet
Protocol (IP) solutions. We operate through two subsidiary groups, Madge.web and
Madge.connect. Madge.web provides network infrastructure and application
services to address the specific needs of multinational finance and media
companies. Madge.connect is a global supplier of advanced networking products
including Token Ring solutions, ISDN switching and IP based video networking for
large enterprises. We market our Madge.web services primarily directly to
business customers and serve our customer base for Madge.connect products
through a global network of distributors and resellers.

     We reorganized our operational and internal reporting structure in 1999
into services and products segments. Madge.web, formerly known as the Managed
Network Services Division, provides services, and Madge.connect, formerly known
as Enterprise Network Products Division, provides products.

     The results of Lannet, the Ethernet business we used to own, are
consolidated in the financial statements up to the time we sold it August 1998.
To the extent that results for periods prior to September 30, 1998 include
Lannet's results, the results will not be comparable to results for later
periods. Results presented in the discussion below for our "continuing"
operations exclude Lannet, while "total" results include Lannet for periods
prior to the date of sale.

ACQUISITION OF OLICOM A/S TOKEN RING BUSINESS

     On August 31, 1999 we completed an agreement with Olicom A/S, under which
we purchased the intellectual property and the rights to manufacture, sell and
develop Olicom's Token Ring product portfolio. The transaction also included
Olicom's Token Ring customer base and we hired 55 Olicom employees. (Although
see above reference to Madge.connect current planned headcount reduction). The
purchase price for the acquisition was $21.5 million, which included an initial
payment of $12.3 million, $8.5 million placed in escrow relating to future
minimum guaranteed payments to be made over three years based on a percentage of
our Token Ring revenues and $0.7 million related to the assumption of a warranty
liability. In addition, we are committed to a further payment of $2.0 million,
which has been placed in escrow and is to be released upon Olicom fulfilling
certain technical support milestones which have been met. We were also committed
to purchase certain Olicom Token Ring inventory in the quarters following the
sale. The agreement, inclusive of $1.2 million of acquisition related expenses,
resulted in $22.5 million of specific intangible assets, which are being
amortized utilizing a reducing percentage method, which approximates the
forecast reduction in Token Ring sales over a three year period. Accumulated
amortization as of December 31, 1999 was $1.4 million.

                                       36
<PAGE>   39

ACQUISITION OF GAINS

     On February 5, 1999 we acquired all the outstanding shares of Gains
International (C.I.) Limited, Gains Hong Kong Limited and Gains Japan Co.
Limited, private companies incorporated in Guernsey, Channel Islands, Hong Kong
and Japan, respectively (collectively, "Gains"). Gains is an international
carrier supplying the financial sector. The purchase consideration was $46.0
million in cash. After taking into account the cash balances of Gains and
capitalized acquisition costs, the net cash outflow was $37.7 million. The
acquisition was accounted for under the purchase method, resulting in goodwill
of $33.9 million, which is being amortized on a straight-line basis over 20
years. Accumulated amortization as of December 31, 1999 was $2.9 million.

FOREIGN CURRENCY EXCHANGE RATES

     The functional currency of Madge Networks N.V. is the U.S. dollar and a
substantial portion of net sales are collected in U.S. dollars. A significant
portion of our net sales are also collected in currencies other than the U.S.
dollar, principally the British pound, the German mark, the French franc and the
Euro. Because we have a substantial portion of its operations located outside
the United States, principally in the United Kingdom, a significant portion of
our manufacturing, logistics, research and development expenses, and general
administrative expenses are incurred in British pounds rather than U.S. dollars.
Although it is impossible to predict future exchange rate fluctuations between
the U.S. dollar and other currencies, it can be anticipated that to the extent
the U.S. dollar strengthens or weakens against the British pound, or to a lesser
extent other currencies, a substantial portion of our reported net sales, cost
of goods sold and operating expenses will be commensurately lower or higher than
they would have been with a stable foreign currency relationship. A portion of
our operations are effectively hedged by the distributed nature of our
world-wide sales and expenses. To the extent that we do not have balanced assets
and liabilities in one or more currencies, we can attempt to estimate the
exposure and we typically purchase or sell foreign currencies forward one month
to hedge the exposure. These transactions do not eliminate our foreign currency
risks or exposures as they involve inexact estimates based on incomplete
information. These foreign currency contracts are marked-to-market on the
balance sheet date and the resulting gains or losses are included in general and
administrative costs for the period.

     Foreign currency gains or losses are charged to, or offset against, general
and administrative expenses. Madge and our subsidiaries periodically record
gains and losses from transactions in, and remeasurements of foreign currency
balances and accounts denominated in, currencies other than their respective
functional currencies. This permits Madge and our subsidiaries to present our
financial statements in their respective functional currencies. As a result of
these foreign currency transactions and remeasurements, we booked net losses of
approximately $577,000 in 1997, net gains of $1,254,000 in 1998, and net loss of
$220,000 in 1999.

     The cumulative translation adjustment in shareholders' equity results from
the consolidation of the net assets of those of our subsidiaries that do not use
the U.S. dollar as their functional currency. An adjustment to shareholders'
equity is made based upon a comparison of the U.S. dollar value of the net
assets of the subsidiary at the beginning of the year at then current exchange
rates with the U.S. dollar value of the same net assets at the end-of-the-year
exchange rates. In addition, an adjustment is recorded from a comparison of the
U.S. dollar value of the net profit or loss of the subsidiary recorded monthly
during the year at then current exchange rates with the U.S. dollar value of the
same net profit or loss translated at end-of-the-year exchange rates. As of
December 31, 1999, cumulative translation adjustments decreased shareholders'
equity by approximately $6,832,000.

                                       37
<PAGE>   40

RESULTS OF OPERATIONS

     The following table shows the percentage of net sales represented by
certain items in our statements of operations for both total operations and
continuing operations:

<TABLE>
<CAPTION>
                                                                   YEAR ENDED DECEMBER 31,
                                         ---------------------------------------------------------------------------
                                                  1997                      1998                      1999
                                         -----------------------   -----------------------   -----------------------
                                           TOTAL      CONTINUING     TOTAL      CONTINUING     TOTAL      CONTINUING
                                         OPERATIONS   OPERATIONS   OPERATIONS   OPERATIONS   OPERATIONS   OPERATIONS
                                         ----------   ----------   ----------   ----------   ----------   ----------
<S>                                      <C>          <C>          <C>          <C>          <C>          <C>
Net sales............................      100%          100%         100%         100%        100%          100%
Cost of sales........................        53           51           49           49           59           59
                                            ---          ---          ---          ---          ---          ---
Gross profit.........................        47           49           51           51           41           41
Operating expenses:
Sales and marketing expenses.........        30           30           27           26           37           37
Research and development expenses....        18           17           16           15           17           17
General and administrative expenses..         7            7            6            6           12           12
Special charges (gain)...............        12                       (12)                       (4)
                                            ---                       ---                       ---
Total operating expenses.............        67                        37                        62
                                            ---                       ---                       ---
(Loss) income from operations........       (20)                       14                       (21)
Net interest income..................        --                         1                         1
                                            ---                       ---                       ---
Income (loss) before income taxes....       (20)                       15                       (20)
Benefit (provision) for income taxes.        --                        (2)                       --
Extraordinary charge.................        --                        (1)                       --
                                            ---                       ---                       ---
Net (loss) income....................       (20)%                      12%                      (20)%
                                            ===                       ===                       ===
</TABLE>

NET SALES

     Net sales from continuing operations, which consist of Madge.web and
Madge.connect, decreased from $277.2 million in 1997 to $242.4 million in 1998
and then decreased further to $196.2 million in 1999. The decrease in net sales
from continuing operations in 1998 compared to 1997 reflected decreased sales in
the Americas, Europe and Asia resulting from disruption to our business and
sales organizations following the 1997 restructuring, as well as competitive
pressures and macroeconomic conditions in Europe. The decrease in net sales in
1999 compared to 1998 is explained in detail below and is mainly due to reduced
demand for our networking products.

     Net sales of Madge.web, which includes the trader voice business acquired
with Gains, were $29.5 million, or 15% of continuing net sales, in 1999.
Madge.web did not generate any revenues prior to the first quarter of 1999. We
anticipate significant sales growth from Madge.web during 2000.

     Net sales from continuing operations in Madge.connect, which consist of
Token Ring and video networking products and other services, decreased from
$277.2 million in 1997 to $242.4 million in 1998 and then decreased further to
$166.7 million in 1999. Sales of these products represented approximately 100%,
100% and 85% of our continuing net sales in 1997, 1998 and 1999, respectively.
Our plans take into account the fact that the market for our Token Ring products
(principally adapter cards) is declining. We are focused on gaining market share
in this difficult market segment and the acquisition of the Olicom A/S Token
Ring business is part of that strategy.

     Total net sales, including those from discontinued operations, decreased
from $384.1 million in 1997 to $301.4 million in 1998 and $196.2 million in
1999. In the Americas net product sales decreased from $129.7 million (34% of
net sales) in 1997 to $97.5 million (32% of net sales) in 1998 and decreased
further to $44.3 million in 1999 (23% of net sales). Outside of the Americas,
net product sales decreased from $246.2 million (64% of net sales) in 1997, to
$196.2 million (65% of net sales) in 1998 and decreased further to $116.1
million in 1999 (59% of net sales). These declines reflected the factors
referenced above affecting the decline of net sales from continuing operations.
The decrease in sales in 1998 compared to 1997 also reflected the sale of Lannet
in 1998. Net sales of Madge.web were $29.5 million (15% of net sales) in 1999.
Service and

                                       38
<PAGE>   41

technology revenue decreased from $8.2 million (2% of net sales) in 1997 to $7.7
million (3% of net sales) in 1998 and $6.3 million (3% of net sales) in 1999.

     Net product sales of Lannet decreased from $106.8 million (28% of net
sales) in 1997 and to $59.0 million (20% of net sales) prior to its sale in
1998.

GROSS PROFIT

     Gross profit from continuing operations increased from 49% in 1997 to 51%
in 1998 and then decreased to 41% of net sales in 1999. The higher gross margin
in 1998 compared to 1997 resulted from both supply chain efficiencies realized
since the sale of our Irish manufacturing plant in the first quarter of 1998,
and a fourth quarter 1998 pre-tax credit of $3.1 million relating to the
settlement of third party warranty claims. The lower gross margins in 1999
compared to 1998 resulted primarily from the increased proportion of revenue
derived from Madge.web and also competitive pricing pressures in Madge.connect.

     Gross profit for Madge.connect was 51.7% for 1999. We believe that gross
profit for Madge.connect will remain under pressure primarily because of
continued price competition. The Madge.web gross profit for the 1999 was (18.7%)
due to investment in the division for future growth. Economies of scale in
relation to revenue have not yet been realised in Madge.web business and are
reflected in the negative gross profit. Long-term gross margins in the our
Madge.web division are expected to remain lower than margins achieved by the
Madge.connect division, and in the near-term to remain substantially lower until
anticipated economies of scale can be realized for Madge.web.

     Our gross margins including discontinued operations increased from 47% in
1997 to 51% in 1998 and then declined to 41% in 1999.

SALES AND MARKETING

     Sales and marketing expenses from continuing operations declined from $81.9
million in 1997 to $64.2 million in 1998 and then increased to $73.1 million in
1999. These expenses represented 30% of continuing sales in 1997, declined to
26% of continuing sales in 1998 and then increased to 37% of continuing sales in
1999. The decrease in sales and marketing expenses in 1998 when compared to 1997
reflected a realignment of resources, including office closings and reduced
headcount following the 1997 restructuring. The increase in sales and marketing
expenses as a percentage of revenue in 1999 compared to 1998 reflected increased
sales and marketing operations associated with the launch and expansion of
Madge.web and the acquisitions of Gains and the Token Ring business of Olicom.
We expect that sales and marketing expenses will continue to be a significant
percentage of net sales in the future, but should decline as a percentage of
sales as Madge.web sales grow and the planned headcount reductions in
Madge.connect occur. Sales and marketing expenses including those from
discontinued operations decreased from $116.2 million in 1997 to $81.7 million
in 1998 and declined further to $73.1 million in 1999. These expenditures
represented 30%, 27% and 37% of net sales in 1997, 1998 and 1999, respectively.
The reduction in 1998 resulted in part from the sale of Lannet in August 1998.

RESEARCH AND DEVELOPMENT

     Research and development expenses for continuing operations decreased from
$46.0 million in 1997 to $36.0 million in 1998 and decreased further to $33.2
million in 1999. These expenses represented 17%, 15% and 17% of sales from
continuing operations in 1997, 1998 and 1999, respectively. The decrease in
research and development expenses in 1998 compared to 1997 reflected reduced
research and development headcount after the 1997 restructuring. Research and
development expenditure is incurred in both Madge.web and Madge.connect, and the
decline in expenditure from 1998 to 1999 reflected the strategy discussed above
to reduce research and development headcount focussed on Token Ring. As a
result, we expect research and development expenditure to decline over future
periods. All of our research and development costs have been expensed as
incurred.

     Research and development expenses including those from discontinued
operations decreased from $67.9 million in 1997 to $48.0 million in 1998 and
then decreased further to $33.2 million in 1999. These expenditures represented
18%, 16% and 17% of net sales in 1997, 1998 and 1999, respectively. The decline
in

                                       39
<PAGE>   42

total research and development expenses in 1998 compared to 1997 also reflected
reduced expenses following the sale of Lannet.

GENERAL AND ADMINISTRATIVE

     General and administrative expenses from continuing operations decreased
from $19.7 million in 1997 to $14.9 million in 1998 and increased to $23.4
million in 1999. These expenses represented 7%, 6% and 12% of sales from
continuing operations in 1997, 1998 and 1999, respectively. Our efforts to
reduce operating expenses during the 1997 restructuring included significant
decreases in the general and administrative headcount and a smaller number of
business centers. The reduction in expenditures in 1998 compared to 1997
included gains from the sale of our Irish manufacturing plant of $2.8 million.
The increase in expenditures in 1999 compared to 1998 reflected Madge.web
general and administrative costs that include the amortization of goodwill in
relation to the acquisition of Gains in February 1999, network infrastructure
depreciation and point of presence expenses. Madge.connect general and
administrative expenses included amortization of the intangible asset relating
to the acquisition of Olicom's Token Ring business in September 1999. General
and administrative expenses including those related to discontinued operations
declined from $27.5 million in 1997 to $18.6 million in 1998 and increased to
$23.4 million in 1999. These expenses represented approximately 7%, 6% and 12%
of net sales in 1997, 1998 and 1999 respectively.

EARNINGS BEFORE INTEREST, TAX, DEPRECIATION AND AMORTIZATION

     Earnings before interest, tax, depreciation and amortization ("EBITDA") for
the year ended December 31, 1997 was a loss of $45.0 million or $(1.00) per
share. This compared to income of $58.0 million or $1.30 per diluted share for
the year ended December 31, 1998 and a loss of $24.1 million or $(0.60) per
share for the year ended December 31, 1999.

SPECIAL CHARGES, GAINS AND MERGER-RELATED EXPENSES

     In the fourth quarter of 1999 Madge.connect created two separate groups,
one focusing on enterprise products (Token Ring and ISDN) and the other on new
internet related access products. The sales and marketing and research and
development functions within Madge.connect were also re-organized along these
lines and costs will be reduced by reducing the headcount in Madge.connect by
approximately 14% during the three quarters beginning October 1999. A special
charge of $6.2 million was taken in the fourth quarter in relation to this
restructuring.

     Offset against the charge of $6.2 million described above was a release of
reserves taken in relation to the sale of Lannet in the third quarter of 1998.
The release of $15 million was a special credit to operating expenses in the
fourth quarter and was in relation to original estimates for representations and
warranties that did not occur. In addition in June 1999, as part of our regular
reviews of the provisions originally created as a special charge on the sale of
Lannet in the third quarter of 1998, we reversed $4.1 million of the special
charge. The reversal related to forecast product returns and professional fees
estimated at the time of sale we did not incur.

     During the third quarter of 1999 we incurred special charges of $1.2
million in connection with the acquisition of the Token Ring business of Olicom
A/S. The charges consisted of integration costs, legal fees and financing
charges relating to the acquisition.

     Special charges incurred in the second quarter of 1999 related to the
reorganization of operating activities connected with the establishment of the
Enterprise Network Products Division (now Madge.connect). The charges consisted
of costs relating to facilities of $3.0 million, leasehold costs relating to
buildings of $0.6 million and provisions for writing off fixed assets of $0.5
million. Facilities and leasehold costs are expected to be realized through cash
payments whereas fixed assets costs are expected to be non-cash transactions.
Planned headcount reductions were provided for previously under provisions made
at the time of the sale of Lannet in August 1998.

                                       40
<PAGE>   43

     We recorded a special gain of $34.8 million on the sale of Lannet in the
third quarter of 1998. The gain consisted of cash received for the acquisition,
less the write-off of the book value of Lannet, disposal related provisions and
other costs of disposal.

     We also recorded an extraordinary charge in the third quarter of 1998 of
$5.2 million relating to the redemption of our $30.0 million Convertible
Subordinated Notes issued in October 1997.

INCOME TAXES

     Our provision for income taxes as a percentage of pre-tax income has ranged
from a net benefit of approximately 3% in 1997 to a net expense of approximately
7% in 1998 and a net expense of 2% in 1999.

     The low tax benefit in 1997 was principally the result of losses that could
not be utilized in certain of our entities. In 1998, the low tax expense was
principally the result of no income tax expense from gains in the sales of
Lannet and of our Irish manufacturing facility. We also experienced operating
losses in certain entities for 1998 that we could not realize for tax purposes.

     The tax expense in 1999 was principally the result of losses that we cannot
utilise in certain of our entities. We recognized approximately $51,000 current
deferred tax assets at December 31, 1998 and 1999, compared with $44,000 at
December 31, 1999.

LIQUIDITY AND CAPITAL RESOURCES

     We are currently satisfying our liquidity and capital resource requirements
primarily through available cash, cash equivalents and bank financing
facilities. At December 31, 1999, we had total cash and cash equivalents of
approximately $19.5 million. Madge and our subsidiaries finance working capital
in part through a $30 million two-year financing arrangement secured by accounts
receivable generated by U.K. and U.S. Madge.connect entities. We also have a
$3.5 million facility that allows borrowing up to an equal compensated cash
balance. Amounts outstanding under these arrangements as at December 31, 1999
were $6.3 million and $0.8 million, respectively.

     Net cash used in operating activities for 1999 was $39.2 million. The
negative cashflow was primarily attributable to the net loss for the year of
$40.3 million (before adjustments for non-cash items).

     Net cash used in investing activities for 1999 was $79.7 million. This
consisted of a net $37.7 million paid for the acquisition of Gains and $13.5
million as a net cash payment for the acquisition of Olicom's Token Ring
business and related acquisition costs, as well as additions to property and
equipment of $28.5 million. In February 1999 we acquired Gains for $46.0 million
cash. After taking into account the cash balances held by Gains, our net cash
outflow for the purchase was approximately $37.7 million. In September 1999 we
acquired Olicom's Token Ring business for an initial cash payment of $12.3
million which excludes amounts placed in escrow relating to future minimum
guaranteed payments and assumed warranty liabilities in respect of Olicom
products. An amount of $1.3 million was paid to Olicom in January 2000 in
relation to the future guaranteed payments and $2.0 million was payable in the
first quarter of 2000 as further technical milestones defined in the purchase
agreement have now been achieved. Purchases of property and equipment were
primarily for new or existing facilities and equipment, including information
systems, to support our business.

     Net cash provided by financing activities of $7.8 million represented
borrowings drawn on the financing facility and net receipts on leasing
arrangements offset by expenditures for the repurchase of common shares through
our share repurchase program. A total of $3.4 million was spent in 1999 for
repurchase of our common shares.

     In December 1997 we announced a common share repurchase program, which was
subject to certain approvals by our shareholders. From December 1997 through
December 31, 1999, we repurchased approximately 5,776,000 common shares
(approximately 12.6% of the 45,747,351 common shares outstanding as of August
14, 1998). Substantially all of those shares have been returned to the status of
authorized (but not issued) common shares.

                                       41
<PAGE>   44

     During January and February 2000, we sold 2,663,900 common shares in a
public offering pursuant to a shelf registration statement on Form F-3 filed
with the Securities and Exchange Commission at per share prices ranging from
$10.50 to $13.63. The gross proceeds of the offering were approximately $29.9
million, expenses were approximately $0.7 million and our net proceeds were
approximately $29.2 million.

     We did not generate cash from operations in the year ended December 31,
1999. Although spending levels are influenced by many factors, based upon our
current plans we will need to raise additional capital during the fiscal year
2000 or generate sufficient cash flow from operations to meet our anticipated
needs for working capital and capital expenditure. During the third quarter of
1999, we announced plans to invest approximately $85 million in Madge.web over
the next two years. We plan to fund this investment primarily through lease
funding and other sources of financing including $29.2 million in net proceeds
from our public offering of common shares mentioned above. We are currently
exploring the options available to meet these investment plans including a
public or private offering of a portion of the shares of Madge.web or the
issuance of additional shares of Madge Networks N.V. We believe that we will be
able to obtain additional funds through private or public equity, bank credit
facility or capital lease facilities. There can be no assurance at this time
that our currently projected requirements will be sufficient or that our
requirements will remain the same given the fact our business is changing and we
actively review business priorities, resource allocation and new business
opportunities. If during such period, or thereafter, we are not successful in
generating sufficient cash flow from operations or in raising additional capital
when required in sufficient amounts and on acceptable terms, these failures
could have a material adverse effect on our business, results of operations and
financial condition. If we raise additional funds through the issuance of equity
or convertible debt securities of the parent company or any subsidiary, the
percentage ownership of our shareholders may be reduced.

YEAR 2000

     We are still assessing possible impacts of the Year 2000 problem and may
still suffer as a result of defects relating to Year 2000 compliance that have
not yet been detected. Worst-case scenarios for us could include material
difficulties in obtaining finished products from our contract manufacturers,
material difficulties processing orders for our products, material difficulties
with management information systems relied upon by us which might affect
collections, management decisions and financial reporting. There can be no
assurance that Year 2000 issues will not result in disruption to our business
resulting from third party suppliers' or service providers' business disruption,
will not result in additional risks to our product supply, internal systems or
will not result in claims from external users of our products, all of which
could result in a material adverse effect on our business, operating results and
financial position.

ITEM 9A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

     For purposes of specific risk analysis, we use sensitivity analysis to
determine the effects that market risk exposures may have on the fair values of
our financial instruments. The financial instruments included in the sensitivity
analysis consist of all of our cash and cash equivalent balances and all
derivative financial instruments. Currency forward contracts constitute our
portfolio of derivative financial instruments.

     To perform sensitivity analysis, we assess the risk of loss in fair values
from the impact of hypothetical changes in foreign currency exchange rates on
market sensitive instruments. The market values for foreign exchange risk are
computed based on spot rates in effect at December 31, 1999. The differences in
this comparison are the hypothetical gains or losses associated with each type
of risk. A 10% movement in levels of foreign currency exchange rates against the
U.S. dollar with all other variables held constant would result in approximately
a $415,000 change in the fair value of our financial instruments at December 31,
1999.

                                       42
<PAGE>   45

ITEM 10.  DIRECTORS AND OFFICERS OF REGISTRANT.

     The following table sets forth the names and positions of our executive
officers and supervisory directors, and such persons' ages as of December 31,
1999:

<TABLE>
<CAPTION>
NAME                                     AGE    POSITION
----                                     ---    --------
<S>                                      <C>    <C>
Robert H. Madge......................    47     Chairman of the Board, Managing Director, Chief
                                                Executive Officer and President of Madge; Chief
                                                Executive Officer of Madge.web.
Christopher Bradley..................    38     Chief Financial Officer
Michael F. Keilty....................    48     Senior Vice President of Madge; Chief Operating
                                                Officer of Madge.web
Michael D. Wilson....................    42     Senior Vice President of Madge; Chief Executive
                                                Officer of Madge.connect
Michael D. Fischer...................    49     Supervisory Director
Denis H. Pomroy......................    49     Supervisory Director
</TABLE>

     Robert H. Madge has served as Chairman of the Board, Managing Director,
Chief Executive Officer and President since June 1993. Mr. Madge founded Madge
in 1986 and was its Chairman and Chief Executive Officer from inception through
June 1993.

     Christopher Bradley joined in September 1996 as Finance Director, becoming
Vice President, Finance in November 1998 and Chief Financial Officer in March
1999. Prior to joining Madge, Mr. Bradley served seven years at Nortel as
Finance Director in the United Kingdom, North America and Asia. Prior to that
time, Mr. Bradley held financial management positions with COMAG, a subsidiary
of Hearst Corporation, Digital Equipment and 3M.

     Michael F. Keilty became Chief Operating Officer of Madge.web in September
1999 after being Senior Vice President, North America since March 1999. Mr.
Keilty joined Madge as Vice President and General Manager of Madge's former
Video Networking Division in October 1998 and became Senior Vice President of
such division in November 1998. Prior to joining Madge, Mr. Keilty served eleven
years at British Telecom North America, the U.S.-based subsidiary of British
Telecom, most recently as Senior Vice President, Sales & Marketing. Previously
he served as Vice President of product sales, where his role encompassed a
domestic and international focus. Mr. Keilty joined British Telecom North
America in 1988 from FTCC, an international record carrier, where he held the
position of Vice President of Sales.

     Michael D. Wilson was appointed Senior Vice President, Multimedia Network
Division (comprised primarily of the former Token Ring Solutions and Video
Networking Divisions) in March 1999 and was appointed Chief Executive Officer of
Madge.connect in August 1999. Prior to that time Mr. Wilson served as Senior
Vice President, Token Ring Solutions Division from November 1998 and as Vice
President and General Manager of such division from July 1997. Mr. Wilson
previously served as Vice President, Manufacturing and Logistics from January
1994. Prior to joining Madge in 1994, Mr. Wilson served as Engineering Software
and Service Business Manager for Manufacturing Systems Portfolio Ltd., a
subsidiary of International Computers Limited from May 1993 to January 1994.

     Michael D. Fisher served as a director of Madge Networks Limited from 1988
until June 1993, and has served as a supervisory director since June 1993. Mr.
Fischer is a non-executive president of Research Machines, a U.K. personal
computer company which he co-founded in 1973. Mr. Fischer's current term as a
supervisory director will end with the 1999 Annual General Meeting of
Shareholders.

     Mr. Pomroy has served as a supervisory director since May 1997. Since 1996,
Mr. Pomroy has been President of Volendum Capital Advisors Inc., a venture
capital management and advisory company. Under a consulting arrangement between
Madge Networks N.V. and Pomroy Finance S.A.R.L., of which Mr. Pomroy is
principal, Mr. Pomroy served as Interim Vice President Finance and Chief
Financial Officer from October 1997 through July 1998. Mr Pomroy also acted as a
consultant on a number of projects advising Madge. The last project was
completed in April 1999. Pomroy Finance S.A.R.L., among other activities,
provides financial advice

                                       43
<PAGE>   46

and consultancy to companies that directly or indirectly own approximately 47.4%
of our outstanding common shares. Prior to April 1996, Mr. Pomroy served as Vice
President and Chief Financial Officer from June 1993 and served as Vice
President, Finance of Madge Networks Limited from October 1989. Mr. Pomroy
serves as a director of Heska Corporation and Superscape VR Plc. and also serves
on the boards of several other private companies in the United Kingdom and
United States, mainly in the emerging growth technology sector.

ITEM 11.  COMPENSATION OF DIRECTORS AND OFFICERS.

     The following tables set forth certain information concerning compensation
paid or accrued for services rendered to Madge in all capacities during 1999 by
Madge's Chief Executive Officer and the three most highly compensated current
executive officers of Madge or our subsidiaries:

                      SUMMARY COMPENSATION TABLE FOR 1999

<TABLE>
<CAPTION>
                                                                   ANNUAL COMPENSATION
                                                         ---------------------------------------
                                                                                      OTHER
NAME AND PRINCIPAL POSITION(S)                            SALARY     BONUS(1)    COMPENSATION(2)
------------------------------                           --------    --------    ---------------
<S>                                                      <C>         <C>         <C>
Robert H. Madge
  Chairman of the Board, Managing Director,
  Chief Executive Officer, President and
  Chief Executive Officer, Madge.web.................    $439,000    $     --       $201,196
Michael F. Keilty
  Senior Vice President and Chief Operating
  Officer, Madge.web.................................    $250,000    $125,000       $ 17,706
Michael D. Wilson
  Senior Vice President and Chief Executive
  Officer of Madge.connect...........................    $241,861    $175,519       $ 41,368
Chris Bradley(3)
  Chief Financial Officer............................    $196,621    $ 57,194       $ 36,763
</TABLE>

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

(1)  Excludes bonuses earned in 1998 and paid in 1999, and includes bonuses
     earned in 1999 and paid in 2000.

(2)  Represents amounts paid or accrued by us for pension plan contributions,
     company cars and other. See "Pension Arrangements" below.

(3)  Mr. Bradley was appointed to this position in March 1999.

     The aggregate cash compensation paid or accrued by us for services rendered
during 1999 to all directors and executive officers as a group at December 31,
1999 consisted of $1,154,032 in base salary and $357,713 in bonuses. Amounts
reflected as bonuses were based on personal performance or in the case of
newly-hired executives included amounts paid in connection with initiation of
their employment with us. The table above excludes individuals who may have been
executive officers during 1999 and who were no longer executive officers or who
had left our employment as of December 31, 1999.

OPTION EXERCISES

     The following table provides certain information concerning the exercise in
1999 of options by each of the persons named in the Summary Compensation Table
For 1999 above, including the aggregate value of gains on the date of exercise.
In addition, the table includes the number of shares covered by both exercisable
and unexercisable options as of December 31, 1999. Also reported are the values
of "in the money" options, calculated as the difference between the exercise
prices of any such existing options and the fair market value of our common
shares as of December 31, 1999.

                                       44
<PAGE>   47

                      AGGREGATED OPTION EXERCISES IN 1999
                     AND OPTION VALUES AT DECEMBER 31, 1999

<TABLE>
<CAPTION>
                                                                  NUMBER OF               VALUE OF UNEXERCISED
                                                             UNEXERCISED OPTIONS          IN-THE-MONEY OPTIONS
                                   SHARES                ---------------------------   ---------------------------
NAME                              EXERCISED   REALIZED   EXERCISABLE   UNEXERCISABLE   EXERCISABLE   UNEXERCISABLE
----                              ---------   --------   -----------   -------------   -----------   -------------
<S>                               <C>         <C>        <C>           <C>             <C>           <C>
Robert H. Madge.................        --         --      416,666        523,334       $542,455       $616,911
Michael F. Keilty...............        --         --       78,125        221,875       $332,070       $943,080
Michael D. Wilson...............        --         --      149,726        112,780       $375,294       $373,640
Chris Bradley...................        --         --       22,603         99,897       $ 40,101       $364,335
Denis Pomroy....................                           105,833         64,167       $ 77,374       $ 63,306
</TABLE>

PENSION ARRANGEMENTS

     Madge Networks N.V. does not operate a pension plan. Some of our
subsidiaries provide pension contributions to employee plans at defined
contribution rates. Contributions are expensed as they become payable. The
amount of contributions expensed was $128,587 in 1999 ($112,595 in 1998).
Amounts paid in 1999 to personal pension plans for the benefit of each of the
persons named in the Summary Compensation Table For 1999 are included in "Other
Compensation" in such table.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

     During 1999, the compensation of our executive officers (excluding Robert
Madge) was determined by Mr. Madge. Mr. Madge's 1999 compensation was determined
by our Supervisory Board, including these supervisory directors serving on our
Compensation Committee. No member of the Compensation Committee has a
relationship that would constitute an interlocking relationship with executive
officers or directors of another entity.

ITEM 12.  OPTIONS TO PURCHASE SECURITIES FROM REGISTRANT OR SUBSIDIARIES.

     At December 31, 1999, options to purchase a total of 6,114,399 common
shares were outstanding at exercise prices ranging from $0.580 to $27.875 and
with expiration dates ranging from February 12, 2000 to December 31, 2009. At
December 31, 1999, the persons named in Item 10 as a group (6 persons) held
options to acquire 1,851,725 common shares. Reference is also made to the
information contained in Item 4 above.

ITEM 13.  INTEREST OF MANAGEMENT IN CERTAIN TRANSACTIONS.

     Until March 1998 we occupied a facility located in Chalfont St. Giles, U.K.
owned by Hartland Holdings Ltd. ("HHL"), a private limited company beneficially
owned by family trusts established by Robert Madge. In June 1995 we entered into
a written lease covering the lease of this property through March  1998. The
lease for this property terminated in March 1998, and we no longer occupy this
facility. In April 1999, we paid HHL $121,000 to settle reinstatement and other
obligations relating to our withdrawal from the property after termination of
the lease.

     Under a consulting arrangement with Pomroy Finance S.A.R.L., of which Mr.
Pomroy is principal, Mr. Pomroy served as a consultant to Madge Networks N.V.
and also served as Interim Vice President Finance and Chief Financial Officer
from October 1997 through June 1998. Mr. Pomroy also acted as a consultant on a
number of projects advising Madge, the last of which was completed in April
1999. Mr. Pomroy was elected a supervisory director in May 1997. Pomroy Finance
S.A.R.L., Paris, France, among other things, provides financial advice and
consultancy to companies or trusts that directly or indirectly own approximately
47.4% of our outstanding common shares.

     We have entered into indemnification agreements with each of our executive
officers and directors. In general these agreements require us to indemnify such
persons against expenses, judgments, fines, settlements and other amounts
actually and reasonably incurred in connection with any proceeding, whether
actual or threatened, to which any such person may be made a party by reason of
the fact that such person is, or was,

                                       45
<PAGE>   48

a director or an executive officer of Madge or any of our affiliated
enterprises. In the opinion of the Securities and Exchange Commission,
indemnification against violations of the Securities Act is against public
policy.

     We have entered into agreements with certain of our senior executive
officers that provide for payments, benefits and vesting of options for periods
of time ranging from six months to a year following the termination of their
employment in certain circumstances.

     We believe that all related-party transactions described above were on
terms no less favorable than would be obtained from unrelated third parties. Any
future transactions between Madge and our officers, directors and affiliates
will be on terms no less favorable to us than can be obtained from unaffiliated
third parties, and any material transactions with such persons will be approved
by a majority of our disinterested directors.

                                       46
<PAGE>   49

                                    PART II

ITEM 14.  DESCRIPTION OF SECURITIES TO BE REGISTERED.

     Not applicable.

                                    PART III

ITEM 15.  DEFAULTS UPON SENIOR SECURITIES.

     None.

ITEM 16.  CHANGES IN SECURITIES AND CHANGES IN SECURITY FOR REGISTERED
          SECURITIES AND USE OF PROCEEDS.

     None.

                                    PART IV

ITEM 17.  FINANCIAL STATEMENTS.

     We have responded to Item 18.

ITEM 18.  FINANCIAL STATEMENTS.

     Reference is made to Item 19(a) for a list of all financial statements
filed as a part of this Annual Report on Form 20-F.

                                       47
<PAGE>   50

ITEM 19.  FINANCIAL STATEMENTS AND EXHIBITS.

     (a) The following consolidated financial statements and related schedule,
together with the report thereon of Ernst & Young are filed as part of this
Annual Report.

<TABLE>
<CAPTION>
                                                              PAGE
                                                              ----
<S>                                                           <C>
     Report and Consent of Independent Auditors.............   F-1
     Consolidated Balance Sheets as of December 31,
      1998 and 1999.........................................   F-2
     Consolidated Statements of Operations for the years
      ended December 31, 1997, 1998 and 1999................   F-4
     Consolidated Statements of Shareholders' Equity for the
      years ended December 31, 1997, 1998 and 1999..........   F-5
     Consolidated Statements of Cash Flows for the years
      ended December 31, 1997, 1998 and 1999................   F-6
     Notes to Consolidated Financial Statements.............   F-7
     Schedule for the years ended December 31, 1997, 1998
      and 1999 -- Schedule II Valuation and Qualifying
      Accounts..............................................  F-24
(b) Exhibits
     4.1 Consent of Ernst & Young...........................   F-1
</TABLE>

                                       48
<PAGE>   51

                                   SIGNATURES

     Pursuant to the requirements of Section 12 of the Securities Exchange Act
of 1934, the registrant certifies that it meets all of the requirements for
filing on Form 20-F and has duly caused this annual report to be signed on its
behalf by the undersigned, thereunto duly authorized.

                                          MADGE NETWORKS N.V.

                                          /s/ ROBERT MADGE
                                          --------------------------------------
                                          Robert H. Madge
                                          Chairman and Chief Executive Officer

Date: March 31, 2000

                                       49
<PAGE>   52

                         REPORT OF INDEPENDENT AUDITORS

The Board of Directors and
Shareholders of Madge Networks N.V.

     We have audited the accompanying consolidated balance sheets of Madge
Networks N.V. as of December 31, 1998 and 1999, and the related consolidated
statements of operations, shareholders' equity and cash flows for each of the
three years in the period ended December 31, 1999. Our audit also included the
financial statement schedule listed in the Index at Item 19(a). These financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.

     We conducted our audits in accordance with United States generally accepted
auditing standards. 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 consolidated financial position of
Madge Networks N.V. at December 31, 1998 and 1999, and the consolidated results
of its operations and its consolidated cash flows for each of the three years in
the period ended December 31, 1999, in conformity with United States generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedule when considered in relation to the basic financial statements
taken as a whole, presents fairly, in all material respects the information set
forth therein.

                                          ERNST & YOUNG

Reading, England
January 19, 2000

                        CONSENT OF INDEPENDENT AUDITORS

     We consent to the incorporation by reference in the Registration Statements
(Form S-8 Nos. 333-9772, 333-6252, 33-99830, 33-84768 and 33-70684 and related
prospectuses of Madge Networks, N.V. of our report dated January 19, 2000, on
the consolidated financial statements and schedule included in the Annual Report
on Form 20-F of Madge Networks N.V. for the year ended December 31, 1999.

                                          ERNST & YOUNG

Reading, England
March 30, 2000

                                       F-1
<PAGE>   53

                              MADGE NETWORKS N.V.

                          CONSOLIDATED BALANCE SHEETS
                           DECEMBER 31, 1998 AND 1999

<TABLE>
<CAPTION>
                                                                    DECEMBER 31,
                                                                --------------------
                                                                  1998        1999
                                                                --------    --------
                                                                   (IN THOUSANDS)
<S>                                                             <C>         <C>
Assets
Current assets:
  Cash and cash equivalents.................................    $130,494    $ 19,471
  Restricted cash...........................................                  10,500
  Accounts receivable, net of allowances for doubtful
  accounts of $2,604 - 1998 and $4,152 -- 1999..........          38,966      38,655

  Inventories
     Raw materials..........................................       3,114         833
     Finished goods.........................................       8,360      15,327
                                                                --------    --------
                                                                  11,474      16,160
  Current deferred tax assets...............................          51          44
  Prepaid expenses and other current assets.................      13,833      10,758
                                                                --------    --------
     Total current assets...................................     194,818      95,588

Property and equipment, at cost
  Land and buildings........................................         247          --
  Leasehold improvements....................................      17,050      18,913
  Motor vehicles............................................         124          55
  Furniture and fixtures....................................       8,269       6,408
  Electronic office equipment...............................       1,224       1,450
  Computer equipment........................................      36,906      57,193
  Manufacturing equipment...................................       2,341         640
  Construction in progress..................................          --       2,358
                                                                --------    --------
                                                                  66,161      87,017
  Accumulated depreciation..................................     (39,946)    (42,183)
                                                                --------    --------
  Property and equipment, net...............................      26,215      44,834

Goodwill, net of accumulated amortization...................          --      32,528
Intangible asset, net of accumulated amortization...........          --      19,548

Investments.................................................       3,624          --
Non-current deferred tax assets.............................         335          --
                                                                --------    --------
Total assets................................................    $224,992    $192,498
                                                                ========    ========
</TABLE>

                             See accompanying notes
                                       F-2
<PAGE>   54

                              MADGE NETWORKS N.V.

                    CONSOLIDATED BALANCE SHEETS (CONTINUED)
                           DECEMBER 31, 1998 AND 1999

<TABLE>
<CAPTION>
                                                                      DECEMBER 31,
                                                                ------------------------
                                                                   1998          1999
                                                                ----------    ----------
                                                                (IN THOUSANDS EXCLUDING
                                                                     SHARE NUMBERS)
<S>                                                             <C>           <C>
Liabilities and Shareholders' Equity
Current liabilities:
  Short-term borrowings.....................................     $  1,633      $  7,107
  Accounts payable..........................................       13,977        13,514
  Deferred consideration....................................           --         8,500
  Accrued wages and related liabilities.....................        4,477         5,196
  Other accrued liabilities.................................       72,207        65,429
  Income taxes payable......................................       13,228        16,715
  Current portion of lease obligations......................        2,178         3,298
                                                                 --------      --------
  Total current liabilities.................................      107,700       119,759

Long-term portion of lease obligations......................          899         3,563
                                                                 --------      --------
Total liabilities...........................................      108,599       123,322

Commitments

Shareholders' equity:
  Common Shares, 1 NLG par value, 100,000,000 shares
  authorized; 44,251,070 and 40,511,345 shares issued and
  outstanding at Dec. 31, 1998 and 1999, respectively.......       25,182        23,340
  Additional paid-in capital................................      123,658       110,009
  Treasury stock, 2,560,763 and 130,000 shares held at
  Dec. 31, 1998 and 1999, respectively......................      (10,703)         (404)
  Retained earnings (deficit)...............................      (16,624)      (56,937)
  Accumulated other comprehensive income....................       (5,120)       (6,832)
                                                                 --------      --------
  Total shareholders' equity................................      116,393        69,176
                                                                 --------      --------
Total liabilities and shareholders' equity..................     $224,992      $192,498
                                                                 ========      ========
</TABLE>

                             See accompanying notes
                                       F-3
<PAGE>   55

                              MADGE NETWORKS N.V.

                     CONSOLIDATED STATEMENTS OF OPERATIONS
                  YEARS ENDED DECEMBER 31, 1997, 1998 AND 1999

<TABLE>
<CAPTION>
                                                                    YEAR ENDED DECEMBER 31,
                                                               ---------------------------------
                                                                 1997        1998        1999
                                                               ---------   ---------   ---------
                                                                (IN THOUSANDS, EXCEPT PER SHARE
                                                                           AMOUNTS)
<S>                                                            <C>         <C>         <C>
Madge.connect net sales:
Continuing..................................................   $277,236    $242,356    $166,677
Discontinued................................................    106,823      59,016          --
                                                               --------    --------    --------
                                                                384,059     301,372     166,677
Madge.web net service sales:................................         --          --      29,475
                                                               --------    --------    --------
                                                                384,059     301,372     196,152
Cost of Madge.connect sales:
Continuing..................................................    141,699     117,670      80,564
Discontinued................................................     60,030      29,433          --
                                                               --------    --------    --------
                                                                201,729     147,103      80,564
Cost of Madge.web service sales.............................         --          --      34,983
                                                               --------    --------    --------
Total cost of sales.........................................    201,729     147,103     115,547
                                                               --------    --------    --------
Gross profit................................................    182,330     154,269      80,605

Operating expenses:
Sales and marketing:
Continuing..................................................     81,897      64,194      73,145
Discontinued................................................     34,307      17,473          --
                                                               --------    --------    --------
                                                                116,204      81,667      73,145
Research and development:
Continuing..................................................     46,012      36,013      33,230
Discontinued................................................     21,894      12,008          --
                                                               --------    --------    --------
                                                                 67,906      48,021      33,230
General and administrative:
Continuing..................................................     19,681      14,903      23,365
Discontinued................................................      7,861       3,653          --
                                                               --------    --------    --------
                                                                 27,542      18,556      23,365
Special charges (gain)......................................     48,733     (34,837)     (7,565)
                                                               --------    --------    --------
Total operating expenses....................................    260,385     113,407     122,175
                                                               --------    --------    --------
  Income (loss) from operations.............................    (78,055)     40,862     (41,570)

Interest income.............................................        788       4,196       3,175
Interest expense............................................        757         924         980
                                                               --------    --------    --------
  Income (loss) before income taxes.........................    (78,024)     44,134     (39,375)

Provision (benefit) for income taxes........................     (2,052)      3,085         938
Extraordinary charge........................................         --       5,226          --
                                                               --------    --------    --------
  Net income (loss).........................................   $(75,972)   $ 35,823    $(40,313)
                                                               ========    ========    ========
Net income (loss) per share
  Basic.....................................................     $(1.69)      $0.81      $(1.00)
  Diluted...................................................     $(1.69)      $0.80      $(1.00)

Weighted average shares outstanding
  Basic.....................................................     45,085      44,404      40,420
  Diluted...................................................     45,085      44,624      40,420
</TABLE>

                                       F-4
<PAGE>   56

                              MADGE NETWORKS N.V.

                CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                  YEARS ENDED DECEMBER 31, 1997, 1998 AND 1999

<TABLE>
<CAPTION>
                                                                               ACCUMULATED
                                           ADDITIONAL                             OTHER           TOTAL
                                 COMMON     PAID-IN     TREASURY   RETAINED   COMPREHENSIVE   SHAREHOLDERS'
                                 SHARES     CAPITAL      STOCK     EARNINGS      INCOME          EQUITY
                                 -------   ----------   --------   --------   -------------   -------------
                                                               (IN THOUSANDS)
<S>                              <C>       <C>          <C>        <C>        <C>             <C>
Balance at, January 1, 1997....  $25,333    $122,316    $     --   $ 23,525      $(2,997)       $168,177
Net loss.......................                                     (75,972)                     (75,972)
Unrealized (loss) on short-term
investments....................                                                       37              37
Foreign currency translation
adjustments....................                                                      290             290
Comprehensive income...........                                                                  (75,645)
Shares issued..................      559       7,653                                               8,212
Shares repurchased.............                           (1,274)                                 (1,274)
Tax benefit from option
exercises......................                  126                                                 126
                                 -------    --------    --------   --------      -------        --------
Balance at December 31, 1997...   25,892     130,095      (1,274)   (52,447)      (2,670)         99,596

Net income.....................                                      35,823                       35,823
Foreign currency translation
adjustments....................                                                   (2,450)         (2,450)
                                                                                                --------
Comprehensive income...........                                                                   33,373
Shares issued..................      149       2,814                                               2,963
Shares repurchased.............     (859)     (9,251)     (9,429)                                (19,539)
                                 -------    --------    --------   --------      -------        --------
Balance at December 31, 1998...   25,182     123,658     (10,703)   (16,624)      (5,120)        116,393

Net (loss).....................                                     (40,313)                     (40,313)
Foreign currency translation
adjustments....................                                                   (1,712)         (1,712)
Comprehensive income...........                                                                  (42,025)
                                                                                                --------
Shares issued..................       98         349       1,365                                   1,812
Shares repurchased.............                           (7,004)                                 (7,004)
Shares cancelled...............   (1,940)    (13,998)     15,938                                      --
                                 -------    --------    --------   --------      -------        --------
Balance at December 31, 1999...  $23,340    $110,009    $   (404)  $(56,937)     $(6,832)       $ 69,176
                                 =======    ========    ========   ========      =======        ========
</TABLE>

                                       F-5
<PAGE>   57

                              MADGE NETWORKS N.V.
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                            YEARS ENDED DECEMBER 31,

<TABLE>
<CAPTION>
                                                               1997        1998        1999
                                                             ---------   ---------   ---------
                                                                      (IN THOUSANDS)
<S>                                                          <C>         <C>         <C>
Cash flows from operating activities
  Net (loss) income.......................................   $ (75,972)  $  35,823   $ (40,313)
  Adjustments to reconcile net (loss) income to Net cash
  (used in) provided by operating activities:

  Profit on sale of subsidiary............................          --     (34,837)         --
  Profits on sale of property and equipment...............          --          --         868
  Depreciation............................................      38,419      22,230      13,389
  Amortisation of Goodwill................................          --          --       1,414

  Amortisation of other intangible assets.................          --          --       2,936
  Changes in assets and liabilities:
  Restricted cash.........................................          --          --     (10,500)
  Accounts receivable.....................................      25,021      18,891       3,511
  Prepaid and other current assets........................      (3,989)      5,298       6,371
  Inventories.............................................      18,087       9,941      (4,472)
  Net deferred tax asset..................................      11,833         (51)        342
  Accounts payable........................................      (8,578)    (19,912)     (9,505)
  Deferred consideration..................................          --          --       8,500
  Other accrued liabilities...............................       7,799      20,695     (15,259)
  Income taxes payable....................................      (6,115)      6,275       3,487
                                                             ---------   ---------   ---------
Net cash (used in) provided by operating activities.......       6,505      64,353     (39,231)

Cash flows from investing activities
  Additions to property and equipment.....................     (26,521)    (13,162)    (28,451)
  Sales and maturities of short-term investments..........       6,467          --          --
  Investments, net........................................       2,823      60,397          --
  Purchase of Gains.......................................          --          --     (37,743)
  Purchase of Olicom......................................          --          --     (13,498)
  Proceeds from sales of property and equipment...........         958      14,091          21
                                                             ---------   ---------   ---------
Net cash (used in) generated by investing activities......     (16,273)     61,326     (79,671)

Cash flows from financing activities
  Proceeds from (redemption of) long-term debt............      30,000     (36,592)         --
  Proceeds from capital leases............................       4,069          --       6,542
  Repayment of capital leases.............................        (672)     (3,900)     (2,651)
  Short-term loan.........................................          --        (229)      5,474
  Repurchase of common shares.............................      (1,274)    (19,399)     (3,380)
  Net proceeds from issue of common shares................       8,212       2,823       1,812
                                                             ---------   ---------   ---------
Net cash provided by (used in) financing activities.......      40,335     (57,297)      7,797

Net (decrease) increase in cash and cash equivalents......   $  30,567   $  68,382   $(111,105)
                                                             =========   =========   =========
Cash and cash equivalents, beginning of year..............      31,590      62,106     130,494
Effect of exchange rate changes on cash...................         (51)          6          82
                                                             ---------   ---------   ---------
Cash and cash equivalents, beginning of year, at year-end
  rate....................................................      31,539      62,112     130,576
                                                             ---------   ---------   ---------
Cash and cash equivalents, end of year....................      62,106     130,494      19,471
                                                             ---------   ---------   ---------
Net (decrease) increase in cash and cash equivalents......   $  30,567   $  68,382   $(111,105)
                                                             =========   =========   =========
Interest paid in the year.................................   $     283   $     924   $     537
Income taxes paid (refunded) in the year..................   $   4,957   $    (133)  ($  1,911)
</TABLE>

                                       F-6
<PAGE>   58

                              MADGE NETWORKS N.V.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.   THE COMPANY

     Madge Networks N.V. is a global managed network services and product
solutions provider specializing in mission-critical enterprise needs. Our goal
is to optimize the implementation of enterprises' voice, video and data networks
with the ultimate aim of converging all networking needs on Internet Protocol
(IP) solutions. We operate through two subsidiary groups, Madge.connect and
Madge.web. Madge.connect is a leading global supplier of advanced Token Ring
local area network and video networking solutions. Madge.web provides global
managed communications and electronic content delivery, with a focus on
supporting the specialized applications of the financial services and
media/publishing industries. Our main business centers are located at Wexham
Springs in the United Kingdom, Dallas, Texas and New York in the United States
and Singapore. We serve our international customer base for Madge.connect
products through a global network of distributors and resellers and market our
Madge.web services primarily directly to business customers.

     At December 31, 1999, our unrestricted cash and cash equivalents totalled
$19.5 million and we had a working capital deficit of $24.2 million. For the
year ended December 31, 1999, we utilized $39.2 million of cash in operations.
In order to meet our planned level of expansion for Madge.web, we will need to
incur significant levels of additional capital expenditures. Based upon the
necessary levels of capital expenditures and forecast continued operating cash
outflow, we will need to raise additional financing during fiscal year 2000.

     As discussed in Note 15, we have begun to raise additional financing
through the filing of a $30 million shelf registration statement on Form F-3 and
as of March 1, 2000, the issuance of shares under this registration statement
was completed, raising funds of $29.2 million. Our plans also include obtaining
additional financing which may include a public or private offering of a portion
of the shares of Madge.web or the issuance of additional shares of Madge
Networks N.V. We believe that we will be able to obtain additional funds through
private or public equity, bank credit facility or capital lease facilities. In
the event that adequate funds are not available from these sources, the Company
will need to reduce its level of capital expenditure and discretionary spending.

2.   BUSINESS COMBINATIONS, SPECIAL CHARGES AND GAINS

     We recorded a restructuring charge of $48.7 million in the third quarter of
1997, which related to the reorganization of our business. This charge consisted
of approximately $15.0 million for employee severance and related matters, $12.0
million for fixed asset write-offs; $9.0 million for lease severance and
abandonment charges, $8.0 million for inventory write-offs and $4.7 million for
other expenses. Of the total charge, approximately $23.0 million related to
write-off of assets, approximately $7.0 million involved cash outflows in 1997,
and the remaining $18.7 million was accrued for future cash outflows,
principally relating to operating leases and employee severance expenses.

     In the third quarter of 1998, we sold the entire issued share capital of
Madge Networks (Israel) Ltd. ("Lannet"), our ethernet division, effective as of
August 27, 1998. A gain of $34.8 million was recorded upon disposal of Lannet
and this has been shown as a special gain within operating expenses. Lannet
represented a significant portion of our operating results. Substantially all
the volume of ethernet revenue and business was lost as a result of the
disposal. As such, the results of Lannet have been presented separately within
the statement of operations and are described as discontinued.

     An extraordinary charge was recorded during 1998 relating to the redemption
of our $30.0 million Convertible Subordinated Notes (the "Notes"). The
extraordinary charge of $5.2 million represented the redemption premium, accrued
interest and other items relating to the redemption of the Notes. The redemption
was financed using part of the proceeds generated from the sale of Lannet. The
impact of this extraordinary charge was $(0.12). Excluding this extraordinary
charge, Madge's diluted net income per share would have been $0.92.

                                       F-7
<PAGE>   59
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Special charges incurred in the second quarter of 1999 related to the
reorganization of operating activities connected with the establishment of the
Enterprise Network Products Division (now Madge.connect). The charges consisted
of costs relating to facilities of $3.0 million, leasehold costs relating to
buildings of $0.6 million and provisions for writing off fixed assets of $0.5
million. Facilities and leasehold costs are expected to be realized through cash
payments whereas fixed assets costs are expected to be non-cash transactions.
Planned headcount reductions were provided for previously under provisions made
at the time of the sale of Lannet in August 1998.

     In June 1999, as part of our regular review of the provisions originally
created as a special charge on the sale of Lannet in the third quarter of 1998,
we reversed $4.1 million of the special charge. The reversal related to forecast
product returns and professional fees estimated at the time of sale that we did
not incur.

     During the third quarter of 1999 we incurred special charges of $1.2
million in connection with the acquisition of the Token Ring business of Olicom
A/S. The charges consisted of legal fees, financing charges and integration
costs relating to the acquisition.

     On August 31, 1999 we completed an agreement with Olicom A/S, under which
we purchased the intellectual property and the rights to manufacture, sell and
develop Olicom's Token Ring product portfolio. The transaction also included
Olicom's Token Ring customer base and we hired 55 Olicom employees. The purchase
price for the acquisition was $21.5 million, which included an initial payment
of $12.3 million, $8.5 million placed in escrow relating to future minimum
guaranteed payments to be made over three years based on a percentage of our
Token Ring revenues and $0.7 million related to the assumption of a warranty
liability. In addition, we are committed to a further payment of $2.0 million,
which has been placed in escrow and is to be released upon Olicom fulfilling
certain technical support milestones which have been met. We were also committed
to purchase certain Olicom Token Ring inventory in the quarters following the
sale. The agreement, inclusive of $1.2 million of acquisition related expenses,
resulted in $22.5 million of specific intangible assets, which are being
amortized utilizing a reducing percentage method, which approximates the
forecast reduction in Token Ring sales over a three year period. Accumulated
amortization as of December 31, 1999 was $2.9 million.

     On February 5, 1999 we acquired all the outstanding shares of Gains
International (C.I.) Limited, Gains Hong Kong Limited and Gains Japan Co.
Limited, private companies incorporated in Guernsey, Channel Islands, Hong Kong
and Japan, respectively (collectively, "Gains"). Gains is an international
carrier supplying the financial sector. The purchase consideration was $46.0
million in cash. After taking into account the cash balances of Gains and
capitalized acquisition costs, the net cash outflow was $37.7 million. The
acquisition was accounted for under the purchase method, resulting in goodwill
of $33.9 million, which is being amortized on a straight-line basis over 20
years. Accumulated amortization as of December 31,1999 was $1.4 million.

                                       F-8
<PAGE>   60
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Unaudited pro forma results relating to the acquisition of Gains in
February 1999 are shown in the table below. Pro forma net sales, income before
extraordinary items, net income/(loss) and net income/(loss) per share are
presented as if Gains had been acquired prior to January 1, 1998.

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                                ------------------------
                                                                   1998          1999
                                                                ----------    ----------
                                                                     (IN THOUSANDS)
<S>                                                             <C>           <C>
Net sales...................................................     $339,252      $199,494

Income (loss) before extraordinary items....................     $ 44,819      $(40,809)

Net income (loss)...........................................     $ 37,922      $(40,809)

Net income (loss) per share

  Basic.....................................................     $   0.85      $  (1.01)

  Diluted...................................................     $   0.85      $  (1.01)

Weighted average shares outstanding

  Basic.....................................................       44,404        40,420

  Diluted...................................................       44,624        40,420
</TABLE>

     Our unaudited pro forma net sales, including Gains and Olicom for the years
ended December 31, 1998 and 1999 were $498,359 and $248,185 respectively.
Information with respect to income before extraordinary items and net income for
Olicom's business acquired in September 1999 is not available.

     We reorganized our operational and internal reporting structure in 1999
into products and services segments. Madge.connect, formerly known as Enterprise
Network Products Division, provides products, and Madge.web, formerly known as
the Managed Network Services Division, provides services. In the fourth quarter
of 1999 Madge.connect created two separate groups, one focusing on enterprise
products (Token Ring and ISDN) and the other on new internet access products.
The sales and marketing and research and development functions within
Madge.connect were reorganized along these lines and costs will be reduced by
reducing the headcount in Madge.connect, by 71 or approximately 14% during the
three quarters starting fourth quarter 1999. We incurred a special charge in the
fourth quarter of $6.2 million relating to headcount costs of $4.6 million,
fixed assets of $0.5 million, legal fees of $0.5 million and facilities costs of
$0.6 million in relation to this restructuring. Payments prior to December 31,
1999 in relation to the restructuring for employee costs were $0.8 million and
$0.3 million in relation to non-employee termination related restructuring
charges.

3.   SIGNIFICANT ACCOUNTING POLICIES

Basis of preparation

     The consolidated financial statements are prepared under U.S. generally
accepted accounting principles and are presented in U.S. dollars.

     The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.

Consolidation

     The consolidated financial statements include the accounts of Madge and our
wholly-owned subsidiaries. All material intercompany balances and transactions
have been eliminated in consolidation.

                                       F-9
<PAGE>   61
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Revenue recognition

     Contract service revenue is recognized on an accrual basis ratably over the
life of the contract. Contract revenues invoiced in advance of revenues earned
are recorded as deferred revenue. Telecommunications revenues are recognized
when services are rendered in accordance with customer usage.

     We recognize revenue from product sales upon shipment of product. Net sales
from non-recurring technology licensing or engineering is recognized on customer
acceptance. Software license royalty revenue is recognized upon notification by
the licensee that products incorporating our software have been shipped by the
licensee.

     Subject to certain limitations, we permit some distributors to exchange
products or to return products in exchange for credits against future purchases.
In addition, in the event we reduce our selling prices, we credit our
distributors for the difference between the purchase price of products remaining
in the customers' inventories and our reduced price for such products, subject
to certain limitations. An allowance for sales returns and price reduction
adjustments is accrued concurrently with the recognition of revenue.

Inventories

     Inventories are stated at the lower of cost or market value, determined on
a weighted average cost method.

Property and equipment

     Property and equipment are stated at cost. Depreciation and amortization of
property and equipment are calculated using the straight-line method over the
estimated useful lives of the assets as follows:

<TABLE>
<S>                                                           <C>
Commercial buildings........................................   20 years
Furniture and fixtures......................................    4 years
Computer equipment..........................................  3-5 years
Network equipment...........................................    4 years
Motor vehicles..............................................    3 years
Manufacturing equipment.....................................  1-3 years
Electronic office equipment.................................    3 years
</TABLE>

Goodwill and other intangible assets

     We amortize goodwill and other intangible assets on a systematic basis over
the estimated useful lives, which range from three to twenty years. Goodwill has
been calculated as the excess of the purchase consideration paid over fair value
of the net assets acquired. The basis for other intangible assets has been
calculated through cash flow analysis to determine the fair value of the
specific intangible assets. The carrying amounts of goodwill is reviewed on a
regular basis for indicators of impairment. Indicators of impairment include an
adverse change in the opportunities or business climate in which we operate.
Should indicators of impairment exist, such impairment will be reviewed through
the examination of discounted cash flows.

Investments

     Investments in companies in which we hold less than a 20% interest are
carried at cost or estimated realizable value, if less.

                                      F-10
<PAGE>   62
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Capital leases

     Assets held under capital leases are capitalized in the balance sheet and
are depreciated over their useful lives. Amortization of these assets is
included in the income statement with depreciation and amortization of purchased
assets.

Research and development

     All research and development expenses are charged to operations as
incurred. Statement of Financial Accounting Standard ("SFAS") No. 86,
"Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise
Marketed," requires capitalisation of certain software development costs
subsequent to the establishment of technological feasibility.

     Based on our product development process, technological feasibility is
established on completion of a working model. Costs incurred by Madge between
completion of the working model and the point at which the product is ready for
release have been insignificant. All research and development costs have been
expensed as incurred.

Accrued warranty costs

     We provide limited warranties on our software and hardware products.
Warranty periods range from 90 days for some software products to lifetime
warranties for some hardware products. We have the option to either repair or
replace defective products or return the price paid. We accrue for expected
future warranty costs.

Cash equivalents and short-term investments

     We include in cash equivalents all highly liquid investments with maturity
dates of three months or less at the purchase date. Short-term investments
consist of highly liquid investments that generally mature within two years from
acquisition. The fair value of investments is based on quoted market prices. We
determine the appropriate classification of debt securities at the time of
purchase and reevaluate such designation as of each balance sheet date. At
December 31, 1999, all debt securities were classified as available-for-sale
under SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities". Securities classified as available-for-sale are reported at fair
market value with the related unrealised gains and losses included in retained
earnings. Realized gains and losses and declines in value judged to be
other-than-temporary on available-for-sale securities are included in general
and administrative expenses. The cost of securities sold is based on the
specific identification method. At December 31, 1999 and 1998 there were no
short-term investments held by us. Realized gains and losses on sales of
securities for all years presented were not material.

Foreign currency translation

     Madge accounts for foreign currency in accordance with SFAS No. 52,
"Foreign Currency Translation". Under this Statement, assets and liabilities of
our non-U.S. dollar subsidiaries are translated into U.S. dollars at exchange
rates in effect at the close of the period. The resulting translation
adjustments are excluded from net earnings, and accumulated as a separate
component of shareholders' equity. The income and expenses of these operations
are translated at monthly market exchange rates.

     Foreign currency transaction gains and losses are included in results of
operations in the periods in which they occur. The total amount of currency
transaction loss recorded in the 1999 statement of operations was $0.2 million
(1998 -- gain $1.3 million, 1997 -- loss $0.6 million).

                                      F-11
<PAGE>   63
                              MADGE NETWORKS N.V.

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

Advertising costs

     We account for advertising costs as an expense in the period in which they
are incurred. Advertising expenses for 1999 were approximately $1.4 million
(1998 - $3.8 million, 1997 - $4.6 million.)

Per share data

     Basic earnings per share is calculated using the weighted average number of
common shares outstanding. The diluted EPS is calculated based on the weighted
average number of common shares plus the dilutive common shares from the
exercise of employee share options. In periods when we report a net loss,
diluted EPS is not reported because the effect of potential common shares is
anti-dilutive.

<TABLE>
<CAPTION>
                                                                  YEAR ENDED DECEMBER 31,
                                                              --------------------------------
                                                                1997        1998        1999
                                                              --------    --------    --------
                                                                       (IN THOUSANDS)
<S>                                                           <C>         <C>         <C>
Numerator for the basic and diluted earnings per share -
(Net loss) profit.........................................    $(75,972)   $ 35,823    $(40,313)
                                                              --------    --------    --------
Denominator for basic earnings per share -
Weighted average shares...................................      45,085      44,404      40,420
                                                              --------    --------    --------
Effect of dilutive securities-employee stock options......          --         220          --
                                                              --------    --------    --------
Denominator for diluted earnings per share................      45,085      44,624      40,420
                                                              ========    ========    ========
(Loss) profit per share:
Basic.....................................................    $  (1.69)   $   0.81    $  (1.00)
                                                              ========    ========    ========
Diluted...................................................    $  (1.69)   $   0.80    $  (1.00)
                                                              ========    ========    ========
</TABLE>

Comprehensive Income (Loss)

     Under SFAS No. 130, "Reporting Comprehensive Income", foreign currency
translation adjustments are included in other comprehensive income (loss).

     The following are the components of comprehensive income (loss):

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                                ------------------------
                                                                   1999          1998
                                                                ----------    ----------
                                                                     (IN THOUSANDS)
<S>                                                             <C>           <C>
Net (loss) income...........................................     $(40,313)     $ 35,823
Foreign currency translation adjustments....................       (1,712)       (2,450)
                                                                 --------      --------
Other comprehensive (loss) income...........................       (1,712)       (2,450)
                                                                 --------      --------
Total comprehensive (loss) income...........................     $(42,025)     $(33,373)
                                                                 ========      ========
</TABLE>

     The components of accumulated other comprehensive loss are as follows:

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                                ------------------------
                                                                   1999          1998
                                                                ----------    ----------
                                                                     (IN THOUSANDS)
<S>                                                             <C>           <C>
Cumulative translation adjustments..........................     $ (6,832)     $ (5,120)
                                                                 --------      --------
Total accumulated other comprehensive loss..................     $ (6,832)     $ (5,120)
                                                                 ========      ========
</TABLE>

                                      F-12
<PAGE>   64
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     As of December 31, 1999 and 1998, the balance of accumulated other
comprehensive income of $6,832,000 and $5,120,000 respectively, was comprised
entirely of accumulated foreign currency translation adjustments. No income tax
effect has been recorded related to the comprehensive income.

4.   BORROWING ARRANGEMENTS

     We finance working capital in part through a $30.0 million two-year
financing arrangement secured by accounts receivable generated by U.K. and U.S.
Madge.connect entities. This agreement was entered into in September 1999 and
expires in September 2001. We also have a $3.5 million facility that allows
borrowing up to an equal compensated cash balance. Amounts outstanding under
these arrangements as at December 31, 1999 were $6.3 million and $0.8 million
respectively.

5.   RELATED PARTY TRANSACTIONS

     We leased an office property pursuant to a lease that expired on March 5,
1998 from an entity in which a director had a material interest. We paid
$121,000 to settle reinstatement and other obligations relating to our
withdrawal from the property after termination of the lease.

6.   COMMITMENTS

Capital Lease Obligations and Operating Leases

     In connection with our business combinations, and restructurings, future
payments of certain duplicate office leases have been charged to expense as part
of the special charges. Such lease payments are also included within the table
below. Gross rental expense was $9,019,329 in 1999 (1998 - $9,505,000, 1997 -
$12,923,000). Sublease rental income was $2,310,000 in 1999 (1998 - $2,823,000,
1997 -- $nil).

     Madge's principal operating leases are for office buildings. In most cases,
it is expected that the operating leases will be renewed or replaced by other
leases in the normal course of business.

     At December 31, 1999, future minimum gross rental payments and sublease
rental income under leases that have initial or remaining non-cancelable lease
terms in excess of one year are as follows:

<TABLE>
<CAPTION>
                                                           CAPITAL LEASES      OPERATING LEASES
                                                           --------------    --------------------
                                                                              GROSS     SUB-LEASE
                                                                             RENTALS     RENTALS
                                                                             -------    ---------
                                                                       (IN THOUSANDS)
<S>                                                        <C>               <C>        <C>
Year ended December 31,
  2000.................................................       $ 3,717        $ 9,562     $ 2,274
  2001.................................................         2,490          8,954       2,054
  2002.................................................          1307          9,454       2,108
  2003.................................................            --          9,225       2,035
  2004.................................................            --          7,364       2,035
  2005 and thereafter..................................            --         43,504       4,649
                                                              -------        -------     -------
Total..................................................         7,514        $88,063     $15,155
                                                                             =======     =======
  Less amount representing interest....................           653
                                                              -------
  Less current portion of lease obligations............         3,298
                                                              -------
  Long-term portion....................................       $ 3,563
                                                              =======
</TABLE>

                                      F-13
<PAGE>   65
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     As of December 31, 1999 the gross amount of assets held under capital
leases included in property and equipment, principally fixtures and fittings,
was approximately $12,804,000 with accumulated amortization of approximately
$5,913,000.

7.  INCOME TAXES

     Significant components of the deferred tax assets at December 31, 1998 and
December 31, 1999 were as follows:

<TABLE>
<CAPTION>
                                                                  AS OF DECEMBER 31,
                                                                ----------------------
                                                                  1998         1999
                                                                ---------    ---------
                                                                    (IN THOUSANDS)
<S>                                                             <C>          <C>
Long-term deferred tax assets:
  Difference in tax/book depreciation.......................    $     335    $       0
                                                                ---------    ---------
Total long-term deferred tax assets.........................    $     335    $       0
                                                                =========    =========
Current deferred tax assets:
  Net operating losses......................................       23,066       69,351
  U.S. research and development credits.....................        1,289        1,629
  Inventory provisions......................................           --           --
  Warranty accruals.........................................        1,657        1,717
  State tax and employee benefit accruals...................          567          320
  Allowances for bad debts..................................        1,308        1,998
  Other general provisions, net.............................        8,865        4,833
  Other losses..............................................      150,000           --
                                                                ---------    ---------
Total current deferred tax assets...........................      186,752       79,848
Less valuation allowance for deferred tax assets............     (186,701)     (79,804)
                                                                ---------    ---------
Current deferred tax assets after valuation allowance.......           51           44
                                                                ---------    ---------
Net deferred tax assets.....................................    $     386    $      44
                                                                =========    =========
</TABLE>

     At December 31, 1999, we had net operating loss carryforwards of
approximately $214.2 million worldwide with various expiration dates in
different countries. In addition, we have research and development credits in
the United States of approximately $1.6 million that expire in the years 2002 to
2012. For financial reporting purposes, a valuation allowance has been
recognized to offset all deferred tax assets related to the carryforwards as it
is not certain that the carryforwards will be utilized before their expiration
dates.

     For financial reporting purposes, income (loss) before income taxes
includes the following components:

<TABLE>
<CAPTION>
                                                                  YEAR ENDED DECEMBER 31,
                                                              --------------------------------
                                                                1997        1998        1999
                                                              --------    --------    --------
                                                                       (IN THOUSANDS)
<S>                                                           <C>         <C>         <C>
United Kingdom............................................    $(19,184)   $(11,737)   $(41,378)
United States.............................................     (15,304)     (4,486)    (18,457)
Israel....................................................     (35,813)    (19,321)         --
Rest of World.............................................      (7,723)     79,678      20,460
                                                              --------    --------    --------
Total.....................................................    $(78,024)   $ 44,134    $(39,375)
                                                              ========    ========    ========
</TABLE>

                                      F-14
<PAGE>   66
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Significant components of the provision (benefit) for income taxes
attributable to continuing operations are as follows:

<TABLE>
<CAPTION>
                                                                  YEAR ENDED DECEMBER 31,
                                                              --------------------------------
                                                                1997        1998        1999
                                                              --------    --------    --------
                                                                       (IN THOUSANDS)
<S>                                                           <C>         <C>         <C>
Current:
  United Kingdom..........................................    $ (7,124)   $   (237)   $   (508)
  United States...........................................      (2,825)         27          --
  Israel..................................................         166        (208)         --
  Rest of World...........................................      (4,604)      3,370       1,111
                                                              --------    --------    --------
  Total current...........................................     (14,387)      2,952         603
                                                              --------    --------    --------
Deferred:
  United Kingdom..........................................       5,494          --         335
  United States...........................................       6,691          --          --
  Israel..................................................          16         184          --
  Rest of World...........................................         134         (51)         --
                                                              --------    --------    --------
  Total deferred..........................................      12,335         133         335
                                                              --------    --------    --------
                                                              $ (2,052)   $  3,085    $    938
                                                              ========    ========    ========
</TABLE>

     The following table presents the differences between The Netherlands tax
rate and the effective tax rate:

<TABLE>
<CAPTION>
                                                                  YEAR ENDED DECEMBER 31,
                                                              --------------------------------
                                                                1997        1998        1999
                                                              --------    --------    --------
                                                                       (IN THOUSANDS)
<S>                                                           <C>         <C>         <C>
The Netherlands statutory tax rate (benefit)..............      (35.0%)      35.0%      (35.0%)

Utilization of net operating losses.......................        (2.3)      (9.96)     (20.37)
Higher effective rates in other countries.................          --        0.27        0.86
Lower effective rates in other countries..................        (4.5)      (4.35)         --
Losses, not utilized......................................        48.3       40.48       29.42
Non-deductible expenses...................................        (8.5)     (53.51)      27.47
Other-net.................................................        (0.6)         --          --
                                                              --------    --------    --------
Effective tax rate (benefit)..............................       (2.6%)      7.93%       2.38%
                                                              ========    ========    ========
</TABLE>

                                      F-15
<PAGE>   67
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

8.   OTHER ACCRUED LIABILITIES

     Other accrued liabilities in the balance sheet consist of:

<TABLE>
<CAPTION>
                                                                AS AT DECEMBER 31,
                                                                ------------------
                                                                 1998       1999
                                                                -------    -------
                                                                  (IN THOUSANDS)
<S>                                                             <C>        <C>
Corporate accruals..........................................    $13,865    $10,038
Sales and marketing accruals................................     15,532     13,652
General and administrative accruals.........................      3,744     16,092
Distributors accruals.......................................      1,877      1,756
Warranty accruals...........................................      6,115      6,339
Restructuring and integration accruals......................     29,229     10,627
Other accruals..............................................      1,845      6,925
                                                                -------    -------
                                                                $72,207    $65,429
                                                                =======    =======
</TABLE>

9.   SHAREHOLDERS' EQUITY

     We have the following classes of shares in addition to common shares:

        Preferred A shares 1 NLG par value, 2 million shares authorized
        Preferred B shares 1 NLG par value, 2 million shares authorized

     There were no such shares issued or outstanding at December 31, 1999 or
1998.

     We have no retained earnings under either Netherlands law or U.S. generally
accepted accounting principles as of December 31, 1999. In the future, our
earnings available for distribution by way of dividends will be determined in
accordance with the laws of The Netherlands in the financial statements of the
parent company, Madge Networks N.V.

     As of December 31, 1999 the number of common shares outstanding were
40,511,345 compared to 44,251,070 outstanding at December 31, 1998. During 1999
we issued 164,199 common shares under our share option plans and 100,920 under
our Employee Share Purchase Plan, and we repurchased 4,004,844 shares under our
Share Repurchase Program.

10. SEGMENTAL INFORMATION AND SIGNIFICANT CUSTOMERS

     Our businesses are organized, managed and internally reported as separate
services and products segments which are reportable under SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information". The
service segment of Madge supplies networking services to businesses, with
expertise in IP-enabled networks. The product business segment develops,
manufactures and markets networking products. Our services segment established
its business in the second half of 1998, and generated its first revenue in the
first quarter of 1999. During 1998, the services segment incurred immaterial
costs and as a result this segment is included within the "Corporate and Other"
results in the table below.

     Lannet, Madge's ethernet division, was disposed of in the third quarter of
1998 and is included as a reconciling item between the results reviewed by the
chief operating decision maker and the reported results in the tables below.

                                      F-16
<PAGE>   68
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     We are an integrated enterprise characterized by substantial intersegmental
co-operation, cost allocation and inventory transfers. Therefore, management
does not represent that these segments, if operated independently, would report
the operating income and other financial information shown.

BUSINESS SEGMENT INFORMATION

<TABLE>
<CAPTION>
                                                          YEAR ENDED DECEMBER 31,
                                  ------------------------------------------------------------------------
                                                                                 ITEMS TO
                                                                                RECONCILE     RESULTS PER
                                  CONNECT    CORPORATE     WEB       TOTAL     TO FINANCIAL    FINANCIAL
                                  PRODUCTS   AND OTHER   SERVICES   COMPANY     STATEMENTS     STATEMENTS
                                  --------   ---------   --------   --------   ------------   ------------
                                                               (IN THOUSANDS)
<S>                               <C>        <C>         <C>        <C>        <C>            <C>
Net Sales
1999............................  $164,621   $   2,056   $ 29,475   $196,152           --       $196,152
1998............................  $239,330   $   3,026         --   $242,356     $ 59,016       $301,372
1997............................  $274,831   $   2,405         --   $277,236     $106,823       $384,059

Inter-Segment Sales
1999............................  $107,608   $(107,751)  $    143         --           --             --
1998............................  $162,636   $(163,127)        --   $   (491)    $    491             --
1997............................  $385,998   $(437,364)        --   $(51,366)    $ 51,366             --

Special Charges
1999............................  $ (7,565)         --         --   $ (7,565)          --       $ (7,565)
1998............................        --          --         --         --     $(34,837)      $(34,837)
1997............................  $ 48,733          --         --   $ 48,733           --       $ 48,733

Operating Income
1999............................  $(40,733)  $  15,694   $(16,531)  $(41,570)          --       $(41,570)
1998............................  $ 15,508   $  28,902         --   $ 44,410     $ (3,548)      $ 40,862
1997............................  $ 22,646   $ (97,895)        --   $(75,249)    $ (2,806)      $(78,055)

Long-Life Assets
1999............................  $ 13,176   $  60,457   $ 23,277   $ 96,910           --       $ 96,910
1998............................  $ 20,626   $   5,589         --   $ 26,215           --       $ 26,215
1997............................  $ 24,469   $  23,810         --   $ 48,279     $  7,718       $ 55,997

Depreciation and Amortization
1999............................  $  8,841   $   5,445   $  3,453   $ 17,739           --       $ 17,739
1998............................  $ 11,762   $     627         --   $ 12,389        9,841       $ 22,230
1997............................  $ 15,100   $   8,630         --   $ 23,730     $ 14,689       $ 38,419

Additions To Long-Life Assets
1999............................  $  5,174   $  56,428   $ 23,277   $ 84,879           --       $ 84,879
1998............................  $  8,983   $   1,301         --   $ 10,284     $  2,878       $ 13,162
1997............................  $ 12,954   $   9,243         --   $ 22,197     $  4,324       $ 26,521
</TABLE>

     The above table is based on management estimates and includes differences
to U.S. generally accepted accounting principles, including estimates of costs
and allocation of overheads between divisions.

                                      F-17
<PAGE>   69
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

GEOGRAPHIC INFORMATION

     Information in the table below is presented on the basis required by SFAS
No. 131. We are internally managed by service and product business units, not by
geographical area as represented in the table below:

Net sales:

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                          -----------------------------------
                                                            1997         1998         1999
                                                          ---------    ---------    ---------
                                                                    (IN THOUSANDS)
<S>                                                       <C>          <C>          <C>
United Kingdom sales..................................    $  44,408    $  33,796    $  51,311
United Kingdom intra-group sales......................      259,827      128,835       81,102

Germany sales.........................................       49,523       52,349       44,148
Germany intra-group sales.............................           --           --        2,107

Rest of Europe Sales..................................       98,178       47,564       35,338
Rest of Europe Intra-group sales......................       91,042       16,635        3,939

Americas sales........................................      131,427      101,631       51,104
Americas intra-group sales............................       23,477       13,790       17,746

Israeli sales -- domestic.............................        6,883        3,152           --
Israeli sales -- export...............................       22,323       55,379           --
Israeli intra-group sales.............................       51,366          384           --

Rest of World net of intra-group......................       31,317        7,501       14,251
Eliminations..........................................     (425,712)    (159,644)    (104,894)
                                                          ---------    ---------    ---------
Total.................................................    $ 384,059    $ 301,372    $ 196,152
                                                          =========    =========    =========
</TABLE>

Operating income (loss):

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                          -----------------------------------
                                                            1997         1998         1999
                                                          ---------    ---------    ---------
                                                                    (IN THOUSANDS)
<S>                                                       <C>          <C>          <C>
United Kingdom operations.............................    $ (27,231)   $   7,330    $ (38,446)
Germany operations....................................          625        1,219          489
Rest of Europe operations.............................       (3,615)       1,121       (1,316)
Americas operations...................................      (21,329)      (6,317)     (18,678)
Israeli operations....................................      (36,173)     (15,027)          --
Rest of World.........................................        9,668       52,536       16,381
                                                          ---------    ---------    ---------
Total.................................................    $ (78,055)   $  40,862    $ (41,570)
                                                          =========    =========    =========
</TABLE>

                                      F-18
<PAGE>   70
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Total assets:

<TABLE>
<CAPTION>
                                                                    AS OF DECEMBER 31,
                                                             --------------------------------
                                                               1997        1998        1999
                                                             --------    --------    --------
                                                                      (IN THOUSANDS)
<S>                                                          <C>         <C>         <C>
United Kingdom operations................................    $ 74,051    $ 60,546    $167,501
Germany operations.......................................       8.495       7,287       1,136
Rest of Europe operations................................      35,246       9,451       8,647
Americas operations......................................      45,875      66,860      30,973
Israeli operations.......................................      54,371          --          --
Rest of World............................................      33,711      80,848     (15,759)
                                                             --------    --------    --------
Total....................................................    $251,749    $224,992    $192,498
                                                             ========    ========    ========
</TABLE>

11. STOCK BASED BENEFIT PLANS

     We have reserved a total of 14,500,000 common shares, 500,000 common shares
and 3,600,000 common shares for issuance under our 1993 Stock Plan, 1993
Directors' Stock Option Plan and 1993 Employee Share Purchase Plan (collectively
the "Plans"), respectively. On November 28, 1995 and February 28, 1996, the
options outstanding under various Lannet and Teleos stock option plans were
assumed by the Plans.

     As of December 31, 1999, options to purchase 5,655,802 common shares were
outstanding under the Plans of which options for 2,252,090 common shares were
exercisable, and an additional 3,732,792 common shares were available for grant
under the Plans. Through December 31, 1999 5,611,406 common shares had been
issued upon exercise of options under the Option Plans. Each outstanding option
at December 31, 1999 entitled the holder to purchase one common share at an
exercise price of between $0.580 and $27.875. Share options are generally
granted with an expiration date of seven to ten years from the date of grant and
vesting normally occurs over a four-year service period.

     As of December 31, 1999, we had issued 2,535,175 common shares and had
1,064,825 common shares available for future grant under our 1993 Stock Employee
Share Purchase Plan.

     We grant stock options for a fixed number of shares to employees with an
exercise price equal to the fair value of the shares at the date of grant. We
account for stock option grants in accordance with APB Opinion No. 25,
"Accounting for Stock Issued to Employees", and accordingly, recognize no
compensation expense for stock option grants. We have an Employee Stock Purchase
Plan under which eligible employees may designate up to 10% of their cash
compensation to be deducted each pay period for the purchase of common shares.
Twice each year, common shares are purchased with the employees' payroll
deductions for the previous six months at a price per share of 85% of the lesser
of the market price of the common shares on the purchase date or the market
price on the first day of the offering period. We recognize compensation expense
for the 15% discount from market price and recorded expense of $188,000 in 1999
(1998 -- $1,442,000, 1997 -- $637,000).

                                      F-19
<PAGE>   71
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Share option activity under the Plans and the predecessor plans for each of
the three years in the period ended December 31, 1999, was as follows:

                             Option Exercise Price

<TABLE>
<CAPTION>
                                 $ 0.000 -     $4.000 -      $10.000 -                  WEIGHTED AVG.
                                   $4.000       $10.000       $47.880        TOTAL      EXERCISE PRICE
                                 ----------   -----------   -----------   -----------   --------------
<S>                              <C>          <C>           <C>           <C>           <C>
Outstanding December 31,
  1996........................      626,534       933,659     6,421,129     7,981,322       $17.9

Granted.......................           --            --            --    10,671,221         7.9
Exercised.....................           --            --            --      (446,331)        2.8
Canceled......................           --            --            --   (10,526,903)       16.4
                                 ----------   -----------   -----------   -----------       -----
Outstanding December 31,
  1997........................      279,364     6,562,553       837,392     7,679,309       $ 6.9

Granted.......................           --            --            --     3,682,667         4.9
Exercised.....................           --            --            --      (226,851)        3.2
Canceled......................           --            --            --    (5,078,105)        7.2
                                 ----------   -----------   -----------   -----------       -----
Outstanding December 31,
  1998........................    1,643,115     4,254,386       159,519     6,057,020       $ 5.6

Granted.......................           --            --            --     2,354,250         3.1
Exercised.....................           --            --            --      (164,199)        3.2
Canceled......................           --            --            --    (2,591,269)        5.3
                                 ----------   -----------   -----------   -----------       -----
Outstanding December 31,
  1999........................    2,805,850     2,838,952        11,000     5,655,802       $ 4.8
                                 ==========   ===========   ===========   ===========       =====
Weighted average remaining
  life........................   8.21 years    5.96 years    1.76 years    7.06 years
Exercisable at December 31,
  1999........................      488,135     1,752,955        11,000     2,252,090

Weighted average exercise
  price of options
  exercisable.................        $3.41         $6.53        $26.26         $6.01
</TABLE>

     Companies that continue to apply APB 25 are required to disclose pro forma
net income and pro forma earnings per share calculated as if the measurement
provisions of SFAS No. 123 had been adopted in their entirety. The pro forma
disclosures include the effects of all awards granted in fiscal years 1997, 1998
and 1999. In management's opinion, existing stock option valuation models do not
provide a reliable single measure of the fair value of employee stock options
because such models were developed for traded options that have no vesting
provisions and are fully transferable. In addition, stock option pricing models
require the input of highly subjective assumptions, including the expected
future stock price volatility.

     The fair value of options at the date of grant estimated using the
Black-Scholes multiple option model contained the following weighted average
ten-year assumptions:

<TABLE>
<CAPTION>
                                                                 YEAR ENDED DECEMBER 31,
                                                             --------------------------------
                                                               1997        1998        1999
                                                             --------    --------    --------
<S>                                                          <C>         <C>         <C>
Expected option term from vest date......................    3 months    3 months    3 months
Risk free interest rate..................................       5.53%       4.83%       6.62%
Volatility...............................................         51%         60%         70%
Dividend yield...........................................           0           0           0
</TABLE>

                                      F-20
<PAGE>   72
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Using the assumptions listed above, share based compensation costs reduced
our income or increased the loss on a pro forma basis to those shown below:

<TABLE>
<CAPTION>
                                                                 YEAR ENDED DECEMBER 31,
                                                           -----------------------------------
                                                             1997         1998         1999
                                                           ---------    ---------    ---------
                                                                     (IN THOUSANDS)
<S>                                                        <C>          <C>          <C>
Reported income (loss) before income taxes.............    $ (78,024)   $  44,134    $ (39,375)

Pro forma compensation expense from stock options......       28,790        8,044        3,966
Pro forma provision (benefit) for income tax...........       (2,178)       2,522          846
                                                           ---------    ---------    ---------
Pro forma net income (loss)............................    $(104,636)   $  33,568    $ (44,187)
                                                           =========    =========    =========
Pro forma net income (loss) per share..................    $   (2.32)   $    0.75    $   (1.09)
                                                           =========    =========    =========
</TABLE>

     Based on the above methodology, the per-share weighted-average fair value
of options granted during the years ended December 31, 1997, 1998 and 1999 was
$2.98, $2.71 and $1.84, respectively.

12. PENSION PLANS

     We contribute to defined contribution pension plans for the benefit of
employees in the United Kingdom. Contributions to the plans are based on
employees' salaries. The rate of contribution has been consistent throughout the
periods presented. The assets of these plans are held separately from those of
Madge in independently administered funds. Contributions are expensed as they
become payable. We also maintain a 401(k) retirement savings plan for our
full-time U.S. employees. Each participant of the United Kingdom plan may elect
to contribute from 1% to 6% of his or her annual compensation to the plan, and
we match the employees' compensation up to 6% of the employees' annual
compensation. A participant of the U.S. plan may elect to contribute from 1% to
10% of their annual compensation and we match 50% of the employees' contribution
to a maximum of 3% of the employee's annual compensation.

     The amount of contributions expensed by us under these pension plans was
$1.5 million for the year ended December 31, 1999 (1998 - $1.3 million, 1997 -
$3.9 million).

13. FINANCIAL INSTRUMENTS AND CONCENTRATIONS OF CREDIT RISKS

     Potential concentrations of credit risk to Madge consist principally of
short-term cash investments and trade receivables.

     We sell our products and services to customers in diversified industries
worldwide and perform on-going credit evaluations of our customers' financial
condition and generally requires no collateral. Allowances for potential credit
losses are maintained and actual credit losses have been within management's
expectation.

     We deposit cash surpluses only with high credit quality banks and
institutions. At December 31, 1999 approximately $19,471,000 of cash and cash
equivalents was held in bank deposits.

     We typically purchase or sell foreign currencies forward one month to hedge
expected currency exposure. Contracts hedging anticipatory transactions matured
at the balance sheet date and were rolled over for a further month in
appropriate amounts. Gains or losses resulting from the roll over of these
contracts are included in the results of operations of the period. At December
31, 1999, we had approximately $49.6 million of forward currency purchases and
sales that mature in approximately one month.

                                      F-21
<PAGE>   73
                              MADGE NETWORKS N.V.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

14. LEGAL PROCEEDINGS

     From time to time Madge and our subsidiaries are involved in disputes
relating to claims arising out of its operations in the normal course of
business. Among other things, such claims may relate to allegations of patent
infringement, employment and related claims and product warranty claims and
service claims. If the class action litigation filed in the United States
District for the Northern District of California in August 1996 were to be
decided against us, our results of operations and financial position could be
adversely affected. In spite of this claim, as of the date of filing of this
Annual Report, we are not party to any legal proceedings the adverse outcome of
which, in management's opinion, individually, or in aggregate, would have a
material adverse effect on our financial position.

15. SUBSEQUENT EVENT

     On January 27, 2000 we filed a universal shelf registration statement on
Form F-3 with the Securities and Exchange Commission that allowed us to offer
and sell, various types of securities including, but not limited to, common
shares and debt securities, up to a total value of $30 million. As of March 1,
2000 the issuance of shares was completed with 2,633,900 common shares with an
aggregate share value of $29.2 million being issued and sold pursuant to such
registration statement.

                                      F-22
<PAGE>   74

                          SUPPLEMENTAL FINANCIAL DATA

     Selected unaudited quarterly financial data for the years ended December
31, 1998 and 1999 is as follows:

<TABLE>
<CAPTION>
                                          MARCH 31,   JUNE 30,   SEPT. 30,   DEC. 31,    TOTAL
                                            1998        1998       1998        1998       1998
                                          ---------   --------   ---------   --------   --------
                                                 (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S>                                       <C>         <C>        <C>         <C>        <C>
Net sales..............................   $ 90,577    $ 87,296   $ 70,183    $ 53,316   $301,372
Gross profit...........................     43,786      43,908     36,614      29,961    154,269
Special (gain).........................         --          --    (34,837)         --    (34,837)
Extraordinary charge...................         --          --      5,226          --      5,226
Net income.............................   $  3,057    $  2,232   $ 27,840    $  2,694   $ 35,823
Net income per share...................   $   0.07    $   0.05   $   0.61    $   0.08   $   0.80
</TABLE>

<TABLE>
<CAPTION>
                                          MARCH 31,   JUNE 30,   SEPT. 30,   DEC. 31,    TOTAL
                                            1999        1999       1999        1999       1999
                                          ---------   --------   ---------   --------   --------
<S>                                       <C>         <C>        <C>         <C>        <C>
Net sales..............................   $ 48,813    $ 53,342   $ 42,193    $ 51,804   $196,152
Gross profit...........................   $ 20,914    $ 23,324   $ 16,114    $ 20,253   $ 80,605
Special charge/(gain)..................         --          --   $  1,212    $ (8,777)  $ (7,565)
Net income/(loss)......................   $ (8,478)   $(10,138)  $(16,442)   $ (5,255)  $(40,313)
Net income per share...................   $  (0.20)   $  (0.25)  $  (0.41)   $  (0.14)  $  (1.00)
</TABLE>

                                      F-23
<PAGE>   75

                                  SCHEDULE II
                              MADGE NETWORKS N.V.
                       VALUATION AND QUALIFYING ACCOUNTS
                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                             ADDITIONS
                                       BALANCE AT   ---------------------------
                                       BEGINNING    CHARGED TO     CHARGED TO                  BALANCE AT
                                           OF       COSTS AND    OTHER ACCOUNTS                  END OF
DESCRIPTION                              PERIOD      EXPENSES         (A)         DEDUCTIONS     PERIOD
-----------                            ----------   ----------   --------------   ----------   ----------
<S>                                    <C>          <C>          <C>              <C>          <C>
YEAR ENDED DECEMBER 31, 1997
Allowance for doubtful accounts.....     7,158        8,549           (585)         (8,858)      6,264

YEAR ENDED DECEMBER 31, 1998
Allowance for doubtful accounts.....     6,264        6,597           (865)         (9,392)      2,604

YEAR ENDED DECEMBER 31, 1999
Allowance for doubtful accounts.....     2,604        4,502           (113)         (2,841)      4,152
</TABLE>

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

(a)  Currency translation adjustments

                                      F-24