SECURITIES AND EXCHANGE COMMISSION

                             Washington, D.C. 20549

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

                                   FORM 10-K/A
 Annual Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934
                  For the fiscal year ended December 31, 1997

                          Commission File Number 1-4373
                                                 ------

                            THREE-FIVE SYSTEMS, INC.
                    (Name of Issuer Specified in Its Charter)

                      Delaware                       86-0654102
          -------------------------------         ----------------
          (State or Other Jurisdiction of         (I.R.S. Employer
           Incorporation or Organization)         Identification No.)

                  1600 North Desert Drive, Tempe, Arizona 85281
                  ---------------------------------------------
                    (Address of Principal Executive Offices)

                                 (602) 389-8600
                                 --------------
                (Issuer's Telephone Number, Including Area Code)

Securities registered under Section 12(b) of the Exchange Act:

         Title of Each Class           Name of Each Exchange on Which Registered

Common Stock, Par Value $.01 Per Share            New York Stock Exchange
--------------------------------------            -----------------------

Securities registered under Section 12(g) of the Exchange Act:  None

Check  whether  the issuer  (1) has filed all  reports  required  to be filed by
Section 13 or 15(d) of the  Exchange  Act during the past 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 __

Check if there is no  disclosure of  delinquent  filers  pursuant to Item 405 of
Regulation S-K contained in this form, and no disclosure  will be contained,  to
the  best  of  registrant's   knowledge,  in  definitive  proxy  or  information
statements  incorporated  by  reference  in Part  III of this  Form  10-K or any
amendment to this Form 10-K. [_____]

State issuer's revenues for its most recent fiscal year:  $84,642,000

As of March 6, 1998,  the  aggregate  market  value of the voting  stock held by
non-affiliates of the issuer,  computed by reference to the price at which stock
was sold as of such date in the stock  market as  reported on the New York Stock
Exchange,  was  $152,309,391.  Shares of Common  Stock held by each  officer and
director and by each person who owns 10% or more of the outstanding Common Stock
have been  excluded in that such  persons may be deemed to be  affiliates.  This
determination  of affiliate  status is not  necessarily  conclusive and does not
constitute an admission of affiliate status.

As of March 6, 1998,  there were 7,907,123  shares of the issuer's  Common Stock
outstanding.

Documents  incorporated by reference:  Portions of the issuer's definitive Proxy
Statement  for the 1998  Annual  Meeting of  Stockholders  are  incorporated  by
reference into Part III hereof.
<PAGE>
ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         Reference is made to the financial statements,  the report thereon, the
notes thereto and the supplementary  data commencing at page F-1 of this Report,
which financial  statements,  report,  notes and data are incorporated herein by
reference.
                                        2
<PAGE>
                                   SIGNATURES

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

Date: March 19, 1998                   THREE-FIVE SYSTEMS, INC.



                                       By /s/ David R. Buchanan
                                          --------------------------------------
                                       David R. Buchanan, Chairman of the Board,
                                       President, and Chief Executive Officer



         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
this  Report has been  signed  below by the  following  persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
        Name                                           Title                                        Date
        ----                                           -----                                        ----
<S>                                      <C>                                                   <C>
/s/ David R. Buchanan                    Chairman of the Board, President,                     March 19, 1998
------------------------------------     And Chief Executive Officer
David R. Buchanan                        (Principal Executive Officer)

/s/ Jeffrey D. Buchanan                  Vice President - Finance, Administration, and         March 19, 1998
------------------------------------     Legal; Chief Financial Officer; Secretary;
Jeffrey D. Buchanan                      and Treasurer (Principal Financial and
                                         Accounting Officer)

                                         Director                                              March   , 1998
------------------------------------
David C. Malmberg

/s/ Burton E. McGillivray                Director                                              March 19, 1998
------------------------------------
Burton E. McGillivray

/s/ Gary R. Long                         Director                                              March 19, 1998
------------------------------------
Gary R. Long

/s/ Kenneth M. Julien                    Director                                              March 19, 1998
------------------------------------
Kenneth M. Julien
</TABLE>
                                       3
<PAGE>
                            THREE-FIVE SYSTEMS, INC.


                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS



                                                                            Page

Report of Independent Public Accountants ....................................F-2

Consolidated Balance Sheets as of December 31, 1997 and 1996 ................F-3

Consolidated Statements of Income (Loss) for the years ended
   December 31, 1997, 1996 and 1995 .........................................F-4

Consolidated Statements of Stockholders' Equity for the
   years ended December 31, 1997, 1996 and 1995 .............................F-5

Consolidated Statements of Cash Flows for the years ended
   December 31, 1997, 1996 and 1995 .........................................F-6

Notes to Consolidated Financial Statements ..................................F-7

Schedule II - Valuation and Qualifying Accounts and Reserves ................S-1
                                      F-1
<PAGE>
                               ARTHUR ANDERSEN LLP







                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To Three-Five Systems, Inc.:


We have  audited the  accompanying  consolidated  balance  sheets of  THREE-FIVE
SYSTEMS,  INC. (a Delaware corporation) and subsidiaries as of December 31, 1997
and  1996,   and  the  related   consolidated   statements  of  income   (loss),
stockholders'  equity and cash  flows for each of the three  years in the period
ended December 31, 1997. These financial  statements are the  responsibility  of
the Company's  management.  Our responsibility is to express an opinion on these
financial statements based on our audits.

We  conducted  our  audits  in  accordance  with  generally   accepted  auditing
standards. Those standards require that we plan and perform the audits 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 financial  statements  referred to above present fairly, in
all material respects,  the financial position of Three-Five  Systems,  Inc. and
subsidiaries  as of  December  31,  1997  and  1996,  and the  results  of their
operations  and their cash flows for each of the three years in the period ended
December 31, 1997, in conformity with generally accepted accounting principles.

Our  audits  were  made for the  purpose  of  forming  an  opinion  on the basic
financial  statements  taken as a whole.  The  schedules  listed in the index of
financial statements are presented for purposes of complying with the Securities
and  Exchange  Commission's  rules  and are  not  part  of the  basic  financial
statements.  These  schedules  have been  subjected to the  auditing  procedures
applied in the audit of the basic  financial  statements  and,  in our  opinion,
fairly state in all  material  respects the  financial  data  required to be set
forth therein in relation to the basic financial statements taken as a whole.

                                        ARTHUR ANDERSEN LLP

Phoenix, Arizona,
January 20, 1998.
                                      F-2
<PAGE>
                            THREE-FIVE SYSTEMS, INC.

                           CONSOLIDATED BALANCE SHEETS
                      (in thousands, except share amounts)

                                     ASSETS
                                                               December 31,
                                                           --------------------
                                                             1997        1996
                                                           --------    --------
CURRENT ASSETS:
   Cash and cash equivalents (Note 2)                      $ 16,371    $ 12,580
   Accounts receivable, net                                  12,540       6,830
   Inventories, net (Note 2)                                  8,255       4,606
   Deferred tax asset (Note 6)                                4,311       5,930
   Other current assets                                       1,228       1,384
                                                           --------    --------
      Total current assets                                   42,705      31,330

PROPERTY, PLANT AND EQUIPMENT, net (Note 2)                  29,847      30,913

OTHER ASSETS                                                    283         326
                                                           --------    --------
                                                           $ 72,835    $ 62,569
                                                           ========    ========

                      LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
   Accounts payable                                        $  8,513    $  4,289
   Accrued liabilities (Note 2)                               5,079       4,524
   Current taxes payable (Note 6)                                --       1,004
                                                           --------    --------
      Total current liabilities                              13,592       9,817
                                                           --------    --------

DEFERRED TAX LIABILITY (Note 6)                               2,718       1,568

COMMITMENTS AND CONTINGENCIES (Note 7)

STOCKHOLDERS' EQUITY (Note 4):
   Preferred stock, $.01 par value; 1,000,000 shares
      authorized                                                 --          --
   Common stock, $.01 par value; 15,000,000 shares
      authorized, 7,928,023 shares issued, 7,905,523 shares 
      outstanding at December 31, 1997; 7,779,829 shares 
      issued, 7,757,329 shares outstanding at 
      December 31, 1996                                          79          78
   Additional paid-in capital                                32,420      32,329
   Retained earnings                                         24,259      19,016
   Cumulative translation adjustment (Note 2)                    20          14
   Less- Treasury stock, at cost (22,500 shares)               (253)       (253)
                                                           --------    --------
      Total stockholders' equity                             56,525      51,184
                                                           --------    --------
                                                           $ 72,835    $ 62,569
                                                           ========    ========



                  The accompanying notes are an integral part
                     of these consolidated balance sheets.
                                      F-3
<PAGE>
                            THREE-FIVE SYSTEMS, INC.

                    CONSOLIDATED STATEMENTS OF INCOME (LOSS)
                      (in thousands, except share amounts)
<TABLE>
<CAPTION>
                                                                   Years Ended December 31,
                                                          -----------------------------------------
                                                              1997           1996           1995
                                                          -----------    -----------    -----------
<S>                                                       <C>            <C>            <C>
NET SALES (Notes 5 and 8)                                 $    84,642    $    60,713    $    91,585
                                                          -----------    -----------    -----------

COSTS AND EXPENSES:
   Cost of sales                                               64,760         58,321         70,481
   Selling, general and administrative                          6,557          5,351          5,386
   Research and development                                     5,106          4,065          2,396
                                                          -----------    -----------    -----------
                                                               76,423         67,737         78,263
                                                          -----------    -----------    -----------
   Operating income (loss)                                      8,219         (7,024)        13,322
                                                          -----------    -----------    -----------

OTHER INCOME (EXPENSE):
   Interest, net                                                  548            412            765
   Other, net                                                    (190)          (139)          (122)
                                                          -----------    -----------    -----------
                                                                  358            273            643
                                                          -----------    -----------    -----------

INCOME (LOSS) BEFORE PROVISION FOR
   (BENEFIT FROM) INCOME TAXES                                  8,577         (6,751)        13,965

   Provision for (benefit from) income taxes (Note 6)           3,334         (2,920)         5,548
                                                          -----------    -----------    -----------
NET INCOME (LOSS)                                         $     5,243    $    (3,831)   $     8,417
                                                          ===========    ===========    ===========

EARNINGS (LOSS) PER COMMON SHARE (Note 2):
   Basic                                                  $      0.67    $     (0.49)   $      1.09
                                                          ===========    ===========    ===========
   Diluted                                                $      0.65    $     (0.49)   $      1.04
                                                          ===========    ===========    ===========

WEIGHTED AVERAGE NUMBER OF COMMON SHARES:
   Basic                                                    7,854,053      7,767,744      7,715,996
                                                          ===========    ===========    ===========
   Diluted                                                  8,089,975      7,767,744      8,083,551
                                                          ===========    ===========    ===========
</TABLE>
  The accompanying notes are an integral part of these consolidated statements.
                                      F-4
<PAGE>
                            THREE-FIVE SYSTEMS, INC.

                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
              FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
                      (in thousands, except share amounts)
<TABLE>
<CAPTION>
                                                  Common Stock
                                             ---------------------   Additional              Cumulative
                                              Shares                  Paid-in    Retained    Translation  Treasury
                                              Issued      Amount      Capital    Earnings    Adjustment     Stock        Total
                                             ---------   ---------   ---------   ---------   ----------   ---------    ---------
<S>                                          <C>         <C>         <C>         <C>          <C>         <C>          <C>
BALANCE, December 31, 1994                   7,691,524   $      77   $  32,052   $  14,430    $       2   $    --      $  46,561

     Stock options exercised                    44,221        --            32        --           --          --             32
     Tax benefit from early disposition
       of incentive stock options (Note 6)        --          --           202        --           --          --            202
     Net income                                   --          --          --         8,417         --          --          8,417
     Translation adjustment                       --          --          --          --             12        --             12
                                             ---------   ---------   ---------   ---------    ---------   ---------    ---------

BALANCE, December 31, 1995                   7,735,745          77      32,286      22,847           14        --         55,224

     Stock options exercised                    44,084           1          11        --           --          --             12
     Tax benefit from early disposition
       of incentive stock options (Note 6)        --          --            32        --           --          --             32
     Net loss                                     --          --          --        (3,831)        --          --         (3,831)
     Purchase of treasury stock                   --          --          --          --           --          (253)        (253)
                                             ---------   ---------   ---------   ---------    ---------   ---------    ---------

BALANCE, December 31, 1996                   7,779,829          78      32,329      19,016           14        (253)      51,184

     Stock options exercised                   148,194           1          50        --           --          --             51
     Tax benefit from early disposition
       of incentive stock options (Note 6)        --          --            41        --           --          --             41
     Net income                                   --          --          --         5,243         --          --          5,243
     Translation adjustment                       --          --          --          --              6        --              6
                                             ---------   ---------   ---------   ---------    ---------   ---------    ---------

BALANCE, December 31, 1997                   7,928,023   $      79   $  32,420   $  24,259    $      20   $    (253)   $  56,525
                                             =========   =========   =========   =========    =========   =========    =========
</TABLE>
  The accompanying notes are an integral part of these consolidated statements
                                      F-5
<PAGE>
                            THREE-FIVE SYSTEMS, INC.

                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (in thousands)
<TABLE>
<CAPTION>
                                                                              Years Ended December 31,
                                                                         ---------------------------------
                                                                           1997         1996         1995
                                                                         ---------------------------------
<S>                                                                      <C>            <C>        <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net income (loss)                                                     $   5,243      $(3,831)   $  8,417
   Adjustments to reconcile net income (loss) to net cash
      provided by operating activities:
       Depreciation and amortization                                         4,135        3,551      2,278
       Provision for (reduction of) accounts receivable
         valuation reserves                                                    (69)          47         (1)
       Provision for (reduction of) inventory valuation reserves            (2,473)       4,015      1,218
       Loss on disposal of assets                                                2           12         24

   Changes in assets and liabilities:
       (Increase) decrease in accounts receivable                           (5,641)       2,469       (624)
       (Increase) decrease in inventories                                   (1,176)       5,082     (5,264)
       (Increase) decrease in other assets                                     505       (1,070)       (32)
       Increase (decrease) in accounts payable and accrued liabilities       4,778        4,296     (3,170)
       Increase (decrease) in taxes payable, net                             1,461       (2,358)    (1,568)
                                                                         ---------    ---------    -------
            Net cash provided by operating activities                        6,765       12,213      1,278
                                                                         ---------    ---------    -------

CASH FLOWS FROM INVESTING ACTIVITIES:
   Purchase of property, plant and equipment                                (3,049)        (948)   (27,051)
   Proceeds from sale of property, plant and equipment                          19            5        326
                                                                         ---------    ---------    -------
            Net cash used for investing activities                          (3,030)        (943)   (26,725)
                                                                         ---------    ---------    -------

CASH FLOWS FROM FINANCING ACTIVITIES:
   Net proceeds from (payments on) notes payable to banks                       -        (3,000)     3,000
   Principal payments on and retirement of long-term debt                       -            -        (182)
   Stock options exercised                                                      52           12         32
   Purchase of treasury stock                                                   -          (253)        -
                                                                         ---------    ---------    ------
            Net cash provided by (used for) financing activities                52       (3,241)     2,850
                                                                         ---------    ---------    -------
   Effect of exchange rate changes on cash                                       4           -          12
                                                                         ---------    ---------    -------

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                         3,791        8,029    (22,585)
CASH AND CASH EQUIVALENTS, beginning of year                                12,580        4,551     27,136
                                                                         ---------    ---------    -------
CASH AND CASH EQUIVALENTS, end of year                                   $  16,371    $  12,580    $ 4,551
                                                                         =========    =========    =======

SUPPLEMENTAL CASH FLOW INFORMATION:
   Interest paid                                                         $       4    $      60    $    12
                                                                         =========    =========    =======
   Income taxes paid                                                     $   1,973    $   1,832    $ 7,296
                                                                         =========    =========    =======
</TABLE>
  The accompanying notes are an integral part of these consolidated statements.
                                      F-6
<PAGE>
                            THREE-FIVE SYSTEMS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                        DECEMBER 31, 1997, 1996 AND 1995




(1)   ORGANIZATION AND OPERATIONS:

The Company designs and manufactures a wide range of user interface  devices for
operational  control and  informational  display  functions  required in the end
products of original  equipment  manufacturers  ("OEMs").  Most of the Company's
sales  consist  of custom  devices  developed  in close  collaboration  with its
customers.  Devices designed and manufactured by the Company find application in
cellular  telephones  and other  wireless  communication  devices  as well as in
medical  equipment,  office automation  equipment,  industrial process controls,
instrumentation,   consumer  electronic  products,   automotive  equipment,  and
industrial and military control products.  The Company currently  specializes in
liquid crystal display  ("LCD") and light emitting diode ("LED")  components and
technology in providing its design and manufacturing services for its customers.
The Company markets its services  primarily in North America,  Europe,  and Asia
through direct technical sales persons and, to a much lesser extent,  through an
independent sales and distribution network.

The  Company  maintains  its  primary  manufacturing  facility  in  Manila,  the
Philippines.   A  third-party   subcontractor  operates  the  facility  under  a
sub-assembly  agreement with the Company  utilizing  equipment,  processes,  and
documentation  owned by the Company.  The  sub-assembly  agreement has a current
term extending through December 31, 1999, and from year to year thereafter,  but
may be terminated by either party upon 180 days written notice.  The termination
of or  the  inability  of  the  Company  to  obtain  products  pursuant  to  the
sub-assembly  agreement,  even  for a  relatively  short  period,  would  have a
material  adverse  effect on the operations  and  profitability  of the Company.
Since December 1994, the Company has made advances totaling  approximately  $1.7
million to the  subcontractor  to help the  subcontractor in meeting its working
capital needs, all of which have been paid in full in 1997. The Company plans on
incorporating a wholly-owned subsidiary during 1998 which will be engaged in the
manufacturing and sale of the Company's  products in China.  Management  expects
that capital expenditures to acquire the property, plant, and equipment for this
expansion will total approximately $8.0 million in 1998.

During 1995, the Company formed a wholly-owned  subsidiary,  Three-Five  Systems
Pacific, Inc. (Pacific).  Pacific, a Philippines corporation,  procures supplies
primarily from  Philippine  vendors,  as well as manages and assists  production
personnel of a third party subcontractor the Company employs. Three-Five Systems
Limited (Limited), a wholly-owned  subsidiary of the Company, is incorporated in
the United  Kingdom.  Limited sells and  distributes  the Company's  products to
customers on the European continent.

(2)   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

         Principles of Consolidation and Preparation of Financial Statements

The consolidated  financial  statements  include the accounts of the Company and
its wholly-owned subsidiaries.  All material intercompany transactions have been
eliminated.

The preparation of financial  statements in conformity  with generally  accepted
accounting principles requires management to make estimates and assumptions that
affect  the  reported  amounts  of assets  and  liabilities  and  disclosure  of
contingent  assets and  liabilities at the date of the financial  statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
                                      F-7
<PAGE>
         Fair Value of Financial Instruments

The estimated  fair value of financial  instruments  has been  determined by the
Company  using  available  market   information  and  valuation   methodologies.
Considerable  judgment is required in estimating fair values.  Accordingly,  the
estimates  may not be  indicative of amounts that would be realized in a current
market exchange.  The carrying values of cash,  accounts receivable and accounts
payable approximate fair value due to the short maturities of these instruments.

         Cash and Cash Equivalents

For purposes of the statements of cash flows, all highly liquid investments with
a maturity of three months or less at the time of purchase are  considered to be
cash equivalents.  Cash equivalents  consist of investments in commercial paper,
marketable  debt  securities,  money  market  mutual  funds,  and United  States
government  agencies'  obligations  and are  classified as  held-to-maturity  in
accordance  with  Statement of Financial  Accounting  Standards  (SFAS) No. 115,
Accounting  for  Certain  Investments  in  Debt  and  Equity  Securities.   Cash
equivalents  were  $12,886,000 and $11,243,000 at December 31, 1997 and December
31, 1996, respectively.

         Inventories

Inventories  are  stated  at the  lower  of cost  (first-in,  first-out)  or net
realizable value. Reserves are established against Company-owned inventories for
excess,  slow-moving,  and obsolete items and for items where the net realizable
value is less than cost. The reserve for obsolete  inventory totaled  $4,309,000
and $6,782,000 at December 31, 1997 and December 31, 1996, respectively.

Inventories at December 31 consist of the following:

                                                     1997           1996
                                                  ---------      ----------
                                                      (in thousands)

                  Raw materials                   $   6,052      $    3,147
                  Work-in-process                     1,195             780
                  Finished goods                      1,008             679
                                                  ---------      ----------
                                                  $   8,255      $    4,606
                                                  =========      ==========

         Property, Plant and Equipment

Property,  plant and equipment is recorded at cost and generally is  depreciated
using the straight-line method over the estimated useful lives of the respective
assets,  which range from 3 to 39 years.  During 1996,  the Company  placed into
service  a  high-volume  LCD  glass  manufacturing  line in its  Tempe,  Arizona
manufacturing facility. The Company is depreciating the LCD glass line using the
units of production method.  Depreciation expense recorded using this method may
be subject to significant  fluctuation  from year to year resulting from changes
in  actual  production  levels  and  ongoing  analysis  of the  capacity  of the
equipment.  Property,  plant  and  equipment  at  December  31  consist  of  the
following:

                                                     1997           1996
                                                  ----------     -----------
                                 (in thousands)

                  Building and improvements       $   10,431     $    10,431
                  Furniture and equipment             31,804          28,776
                                                  ----------     -----------
                                                      42,235          39,207
                  Less- accumulated depreciation     (12,388)         (8,294)
                                                  ----------     -----------
                                                  $   29,847     $    30,913
                                                  ==========     ===========
                                      F-8
<PAGE>
The Company  intends to utilize a  significant  portion of the  high-volume  LCD
glass  manufacturing  line facility to produce a substantial  portion of its own
requirements  for LCD glass.  The successful  utilization  of the  manufacturing
facility  will  require  the  Company  (i) to produce  LCD glass on a timely and
cost-effective basis at quality levels at least equal to the LCD glass available
from  independent  suppliers  and (ii) to utilize  the LCD glass it  produces in
devices it designs and  manufactures in a manner  satisfactory to its customers.
Although   management   believes  that  the   manufacturing   facility  will  be
successfully  utilized,  no  assurance  can be given that the  Company  will not
experience  problems  or  delays  in the  future  in  conducting  its LCD  glass
manufacturing operations. Such problems could require the Company to continue to
purchase  its LCD  glass  requirements  from  third  parties  and  result in the
inability  of the  Company  to  recover  its  investment  in  the  manufacturing
facility.

During 1996,  the Company  entered into a  transaction  in which it conveyed its
Tempe,  Arizona  facility  and  certain  improvements  to the  City of  Tempe as
consideration  for a  rent-free  75-year  lease.  The  Company has the option to
repurchase  the  facility for $1,000  after ten years;  therefore,  the lease is
accounted for as a capital lease.

         Accrued Liabilities

Accrued liabilities include accrued compensation of approximately $1,675,000 and
$988,000 at December 31, 1997 and 1996, respectively.

         Foreign Currency Translation

Financial information relating to the Company's foreign subsidiaries is reported
in accordance with SFAS No. 52, Foreign Currency  Translation.  The gain or loss
resulting from the  translation of the  subsidiaries'  financial  statements has
been included as a separate  component of stockholders'  equity. The net foreign
currency  transaction  loss in 1997,  1996 and 1995 was $183,000,  $46,000,  and
$32,000,   respectively,  and  has  been  included  in  other  expenses  in  the
accompanying statements of income (loss).

         Revenue Recognition

The  Company  recognizes  revenue  upon  shipment.   The  Company's  distributor
agreements provide for stock (inventory) rotation and price protection. Reserves
are provided for each of these programs based on past return  experience.  These
reserves  are  established  at the time of  shipment  and reduce  gross sales to
arrive at net sales as presented in the accompanying  consolidated statements of
income  (loss).  These  reserves  are  reflected as a reserve  against  accounts
receivable  from sales to  distributors  and  totaled  $125,000  and  $89,000 at
December 31, 1997 and 1996,  respectively.  The Company's distributors generally
offset any returns and allowances against payments on accounts  receivable.  The
Company also provides  reserves for  uncollectible  accounts  receivable.  These
reserves   totaled  $455,000  and  $560,000  at  December  31,  1997  and  1996,
respectively.  The Company  performs  ongoing  credit  evaluations of all of its
customers  and  considers  various  factors in  establishing  its  allowance for
doubtful accounts.

         Research and Development

Research and development  costs are expensed as incurred.  The Company currently
is spending research and development dollars on several new technologies that it
plans to  introduce  in the  future.  There is a risk  that some or all of those
technologies  may not  successfully  make the  transition  from the research and
development lab to cost-effective manufacturable products.

         Earnings (Loss) Per Share

During 1997, the Company adopted SFAS No. 128,  Earnings per Share.  Pursuant to
SFAS No. 128,  basic  earnings  per common  share are  computed by dividing  net
income  (loss)  by the  weighted  average  number  of  shares  of  common  stock
outstanding  during the year.  Diluted  earnings (loss) per common share for the
years ended  December  31,  1997,  1996 and 1995 are  determined  assuming  that
options were exercised at the beginning of each
                                      F-9
<PAGE>
year or at the time of issuance,  if later. No outstanding  options were assumed
to be exercised for purposes of calculating  diluted  earnings per share for the
year ended  December 31, 1996 as their effect was  anti-dilutive.  Below are the
disclosures  required  pursuant to SFAS No. 128 for the years ended December 31,
1997, 1996 and 1995 (in thousands, except per share data):

                                                      For the Years
                                                    Ended December 31,
                                                ----------------------------
                                                 1997      1996       1995
                                                -------   -------    -------
    Basic earnings (loss) per share:
      Income available to common shareholders   $ 5,243   $(3,831)   $ 8,417

      Weighted average common shares              7,854     7,768      7,716
                                                -------   -------    -------

                 Basic per share amount         $  0.67   $ (0.49)   $  1.09
                                                =======   =======    =======

    Diluted earnings (loss) per share:
      Income available to common shareholders   $ 5,243   $(3,831)   $ 8,417

      Weighted average common shares              7,854     7,768      7,716
      Options assumed converted                     236      --          368
                                                -------   -------    -------
      Total common shares plus assumed
        conversions                               8,090     7,768      8,084
                                                -------   -------    -------

                 Diluted per share amount       $  0.65   $ (0.49)   $  1.04
                                                =======   =======    =======

(3) LONG-TERM DEBT:

In May 1997, the Company  entered into a new $15.0 million  unsecured  revolving
line of credit which matures May 22, 1998. This line of credit bears interest at
the bank's  prime rate  (8.50% at December  31,  1997) or at the LIBOR base rate
(5.7% to 6.0% at December 31, 1997) plus 1.75%,  and is payable  monthly.  There
was no balance  outstanding  at December  31,  1997 or 1996.  In  addition,  the
Company  has a  $350,000  United  Kingdom  credit  facility  with  interest  due
quarterly  at the bank's  base rate (7.75% at  December  31,  1997) plus 2%. Any
unpaid balance is due June 20, 1998,  and is secured by United Kingdom  accounts
receivable.  Management  intends to renew the United Kingdom credit facility and
does not anticipate any material changes to the existing terms.

The lines of credit contain certain restrictive  covenants which include,  among
other things,  restrictions  on the  declaration or payment of dividends and the
amount of capital expenditures. The lines also require the Company to maintain a
specified net worth, as defined, to maintain a required debt to equity ratio and
to maintain certain other financial ratios.

(4)   BENEFIT PLANS:

The Company has four stock option plans: the 1997 Stock Option Plan (1997 Plan),
the 1994  Non-Employee  Directors Stock Option Plan (1994 Plan),  the 1993 Stock
Option Plan (1993 Plan), and the 1990 Stock Option Plan (1990 Plan).

         1997 Stock Option Plan

The 1997 Plan provides for the granting of  nonqualified  options to purchase up
to 100,000 shares of the Company's  common stock.  Under the 1997 Plan,  options
may be issued to key personnel  and others  providing  valuable  services to the
Company and its  subsidiaries.  The options  issued will be  nonqualified  stock
options and shall not be "incentive  stock options" as defined in Section 422 of
the  Internal  Revenue  Code of 1986 (the  Code).  Any  option  that  expires or
terminates  without  having been  exercised in full will again be available  for
grant  pursuant  to the 1997 Plan.  There were  options  outstanding  to acquire
22,000 shares of the Company's  common stock under the 1997 Plan at December 31,
1997.
                                      F-10
<PAGE>
The  expiration  date,  maximum  number  of  shares  purchasable  and the  other
provisions of the options will be established at the time of grant.  Options may
be granted  for terms of up to ten years and become  exercisable  in whole or in
one  or  more  installments  at  such  time  as may be  determined  by the  plan
administrator upon grant of the options. The exercise prices of the options will
be determined by the plan administrator, but may not be less than 100 percent of
the fair  market  value of the common  stock at the time of the grant.  The 1997
Plan will remain in force until May 12, 2007.

         1994 Non-Employee Directors Stock Option Plan

The 1994 Plan provides for the automatic  grant of stock options to non-employee
directors to purchase up to 100,000 shares of the Company's common stock.  Under
the  1994  Plan,  options  to  acquire  500  shares  of  common  stock  will  be
automatically  granted to each non-employee director at the meeting of the Board
of Directors held immediately  after each annual meeting of  stockholders,  with
such options to vest in a series of 12 equal and successive monthly installments
commencing one month after the annual  automatic  grant date. In addition,  each
non-employee  director  serving on the Board of  Directors  on the date the 1994
Plan was approved by the Company's  stockholders  received an automatic grant of
options  to  acquire  1,000  shares of common  stock and each  subsequent  newly
elected  non-employee member of the Board of Directors will receive an automatic
grant of options to acquire  1,000  shares of common  stock on the date of their
first  appointment  or election to the Board of Directors.  Those options become
exercisable  and  vest  in  a  series  of  three  equal  and  successive  annual
installments,  with the first such  installment  becoming  exercisable 13 months
after the automatic grant date. A non-employee  member of the Board of Directors
is not eligible to receive the 500 share  automatic  option grant if that option
grant date is within 30 days of such  non-employee  member  receiving  the 1,000
share  automatic  option  grant.  The  exercise  price per share of common stock
subject to options  granted  under the 1994 Plan will be equal to 100 percent of
the fair market value of the Company's common stock on the date such options are
granted. There were outstanding options to acquire 9,000 shares of the Company's
common stock under the 1994 Plan at December 31, 1997.

         1993 Stock Option Plan

The 1993 Plan  provides  for the  granting  of options to purchase up to 385,454
shares of the Company's  common stock (which includes  85,454 shares  previously
reserved for issuance  under the Company's  1990 Stock Option Plan),  the direct
granting of common stock  (stock  awards),  the  granting of stock  appreciation
rights (SARs) and the granting of other cash awards (cash awards;  stock awards,
SARs and cash awards are collectively  referred to herein as Awards).  Under the
1993  Plan,  options  and  Awards  may be issued  to key  personnel  and  others
providing  valuable  services to the Company and its  subsidiaries.  The options
issued may be incentive  stock options or  nonqualified  stock  options.  If any
option or SAR terminates or expires without having been exercised in full, stock
not issued under such option or SAR will again be available  for grant  pursuant
to the 1993 Plan.  There were options  outstanding to acquire  309,750 shares of
the Company's common stock under the 1993 Plan at December 31, 1997.

To the extent that granted  options are incentive  stock options,  the terms and
conditions  of  those  options  must  be  consistent   with  the   qualification
requirement set forth in the Code. The expiration date, maximum number of shares
purchasable  and the other  provisions of the options will be established at the
time of grant.  Options  may be granted  for terms of up to ten years and become
exercisable  in  whole  or in one or more  installments  at such  time as may be
determined  by the plan  administrator  upon grant of the options.  The exercise
prices of options will be determined by the plan  administrator,  but may not be
less than 100 percent (110 percent if the option is granted to a stockholder who
at the time the option is granted owns stock  representing more than ten percent
of the total  combined  voting  power of all classes of stock of the Company) of
the fair  market  value of the common  stock at the time of the grant.  The 1993
Plan will remain in force until February 24, 2003.

         1990 Stock Option Plan

Under the 1990 Plan,  there are 210,220  options  issued but  unexercised  as of
December 31, 1997. In conjunction  with  stockholder  approval of the 1993 Plan,
the Board terminated the 1990 Plan with respect to unissued options
                                      F-11
<PAGE>
to purchase 85,454 shares of common stock which remained and were unissued as of
the date the 1993 Plan was adopted.  The 1990 Plan will remain in force  through
May 1, 2000.

The  expiration  date,  maximum  number  of  shares  purchasable,  and the other
provisions of the options  granted under the 1990 Plan were  established  at the
time of grant.  Options  were  granted  for terms of up to ten years and  become
exercisable  in  whole  or in one or more  installments  at such  times  as were
determined by the Board of Directors upon grant of the options.

Tax benefits from early  disposition of common stock by optionees under the 1993
and 1990 Plans and from the  exercise of  nonqualified  options are  credited to
additional paid-in capital.

Pursuant  to  the  provisions  of  SFAS  No.  123,  Accounting  for  Stock-Based
Compensation,  the Company accounts for transactions with its employees pursuant
to Accounting  Principles  Board Opinion No. 25,  Accounting for Stock-Issued to
Employees,   under  which  no  compensation   cost  has  been  recognized.   Had
compensation cost for these plans been determined  consistent with SFAS No. 123,
the Company's net income (loss) and earnings (loss) per share would have been as
follows (in thousands, except per share data): <TABLE> <CAPTION>
                                                                           1997          1996        1995
                                                                         ---------    ----------   ---------

         <S>                                <C>                          <C>          <C>          <C>
         Net income (loss):                 As reported                  $   5,243    $  (3,831)   $   8,417
                                            Pro forma                        4,785       (4,076)       8,327
         Basic earnings (loss)
           per share:                       As reported                  $   0.67     $   (0.49)   $    1.09
                                            Pro forma                        0.61         (0.52)        1.08
         Diluted earnings (loss)
           per share:                       As reported                  $    0.65    $   (0.49)   $    1.04
                                            Pro forma                         0.59        (0.52)        1.03
</TABLE>

The fair value of each option  grant is estimated on the date of grant using the
Black-Scholes   option   pricing  model  with  the  following   weighted-average
assumptions for grants in 1997, 1996 and 1995, respectively:  risk-free interest
rates of 5.45%,  6.31% and 6.31%;  expected  dividend  yields of zero;  expected
lives of 6.4,  6.1 and 5.7  years;  and  expected  volatility  (a measure of the
amount by which a price has  fluctuated  or is  expected to  fluctuate  during a
period) of 60.0%, 61.9% and 58.7%.

Because the SFAS No. 123 method of  accounting  has not been  applied to options
granted prior to January 1, 1995, the resulting pro forma  compensation cost may
not be  representative  of that to be expected  in future  years.  The  weighted
average fair value of shares sold in 1997 was $14.98.
                                      F-12
<PAGE>
A summary of the status of the Company's four stock option plans at December 31,
1997,  1996 and 1995 and changes  during the three years then ended is presented
in the table and narrative below:
<TABLE> 
<CAPTION>
                                     1997                        1996                           1995
                           ------------------------  -----------------------------  --------------------------
                                         Weighted                      Weighted                       Weighted
                                          Average                       Average                        Average
                                         Exercise                      Exercise                       Exercise
                             Shares        Price         Shares          Price         Shares           Price
                             ---------   ---------     ---------       --------       ----------      --------
<S>                            <C>        <C>            <C>            <C>              <C>           <C>
   Outstanding at
     beginning of year         551,776    $   6.92       539,576        $ 8.06           465,326       $ 4.68
   Granted                     200,500       14.63       250,100         11.89           178,000        22.15
   Exercised                  (162,306)       1.34       (44,900)         0.49           (44,250)        0.75
   Expired                     (39,000)      12.23      (193,000)        18.04           (59,500)       29.24
                             ---------                 ---------                      ----------

   Outstanding at
         end of year           550,970    $  11.01       551,776        $ 6.92           539,576       $ 8.06
                             =========                 =========                      ==========

   Exercisable at end of
     year                      165,110                   294,982                         308,940
                             =========                 =========                      ==========
   Weighted average fair
     value of options
     granted                              $   9.19                     $ 7.57                        $  13.19
                                          ========                     ======                        ========
</TABLE>
The following table summarizes  information  about stock options  outstanding at
December 31, 1997:
<TABLE>
<CAPTION>
                                Options Outstanding                             Options Exercisable
              -----------------------------------------------------------  --------------------------
                                                Weighted
                                  Number         Average       Weighted         Number       Weighted
                 Range of     Outstanding at    Remaining      Average     Exercisable at     Average
                 Exercise      December 31,    Contractual     Exercise     December 31,     Exercise
                  Prices           1997           Life           Price           1997          Price
              --------------  --------------   ------------   -----------  ---------------   --------

              <S>               <C>              <C>            <C>            <C>             <C>
              $ 0.25 - $9.00      108,720        5.7 years      $   0.77        108,720        $ 0.77
                9.01 - 20.00      422,250        8.0 years         13.06         51,390         13.52
               20.01 - 34.38       20,000        8.9 years         23.23          5,000         26.93
                                ---------        ---------      --------      ---------        ------
                                  550,970        7.6 years      $  11.01        165,110        $ 5.53
                                =========        =========      ========      =========        ======
</TABLE>
         401(k) Profit Sharing Plan

Effective  September 1, 1990, the Company  adopted a profit sharing plan (401(k)
Plan)   pursuant  to  Section  401(k)  of  the  Code.  The  401(k)  Plan  covers
substantially all full-time employees who meet the eligibility  requirements and
provides for a discretionary  profit sharing  contribution by the Company and an
employee elective  contribution with a discretionary Company matching provision.
The Company expensed discretionary  contributions pursuant to the 401(k) Plan in
the amount of $71,000,  $65,000,  and $0 for the years ended  December 31, 1997,
1996, and 1995, respectively.
                                      F-13
<PAGE>
(5)   MAJOR CUSTOMERS:

The Company's  strategy  involves  concentrating its efforts on providing design
and production services to leading companies in a limited number of fast growing
industries.  Beginning  in 1996,  the Company has been  undertaking  substantial
efforts to diversify its  business,  broaden its customer  base,  and expand its
markets.   The  Company's   historical   major   customer,   who  accounted  for
approximately  65 percent  and 81 percent of the  Company's  revenue in 1996 and
1995,  respectively,  accounted  for  approximately  35 percent of the Company's
revenue  during  1997.  This  reduced  percentage  occurred  as a result  of the
increased  sales to other  customers  and  reduced  product  selling  prices and
revenues from that major  customer.  The Company's  other  significant  customer
accounted for 32 percent of the  Company's  revenue  during 1997.  Sales to this
customer  were less than 10 percent of the  Company's  revenue  during  1996 and
1995.

The  significant  amount  of  sales  to  a  few  customers  results  in  certain
concentrations of credit risk for the Company. The Company's accounts receivable
balance,  including the accounts  receivable of the Company's largest customers,
is comprised of a large number of  customers,  primarily in the cellular  phone,
computer hardware and other electronic products industries.  These customers are
located primarily in the United States and Europe.

(6)   INCOME TAXES:

SFAS No. 109,  Accounting  for Income  Taxes,  requires  the use of an asset and
liability  approach in  accounting  for income  taxes.  Deferred  tax assets and
liabilities  are  recorded  based  on  the  differences  between  the  financial
statement  and tax bases of assets and  liabilities  and the tax rates in effect
when these differences are expected to reverse.

The provision  for income taxes for the years ended  December 31 consists of the
following:
<TABLE>
<CAPTION>
                                                                             1997          1996         1995
                                                                          ----------    ----------      --------
                                                                                      (in thousands)
         <S>                                                              <C>           <C>             <C>
         Current, net of operating loss carryforwards
           and tax credits utilized
                Federal, net of tax benefit from early
                  termination of incentive stock options                  $      356    $      556      $  2,775
                State                                                             97            58           790
                Foreign                                                           71             9         1,681
                                                                          ----------    ----------      --------
                                                                                 524           623         5,246
         Deferred provision (benefit)                                          2,769        (3,575)          100
         Tax benefit from early termination of incentive
           stock options, reflected in stockholders' equity                       41            32           202
                                                                          ----------    ----------      --------
                Provision (benefit) for income taxes                      $    3,334    $   (2,920)     $  5,548
                                                                          ==========    ==========      ========
</TABLE>

In  accordance  with SFAS No.  109, a tax benefit  for net  operating  losses of
approximately  $35,000,  $102,000,  and $67,000 and tax credits of approximately
$0, $938,000, and $1,478,000 utilized in 1997, 1996, and 1995, respectively, are
included as a reduction of the  provision  for income taxes in the  consolidated
statements of income (loss).
                                      F-14
<PAGE>
The components of deferred taxes at December 31 are as follows:
<TABLE>
<CAPTION>
                                                                                           1997           1996
                                                                                        ---------       --------
                                                                                              (in thousands)
         <S>                                                                            <C>             <C>
         Net long-term deferred tax liabilities:
           Accelerated tax depreciation                                                 $   2,685       $  1,535
           Other                                                                               33             33
                                                                                        ---------       --------

                                                                                        $   2,718       $  1,568
                                                                                        =========       ========
         Net short-term deferred tax assets:
           Inventory reserve                                                            $   1,721       $  2,675
           Uniform capitalization                                                           1,251          1,868
           Accrued liabilities not currently deductible                                     1,080          1,080
           Allowance for doubtful accounts                                                    156            196
           Tax effect of regular U.S. net operating loss carry forward                        166            189
           Other                                                                               91             76
                                                                                        ---------       --------
                                                                                            4,465          6,084
           Valuation allowance                                                               (154)          (154)
                                                                                        ---------       --------
                                                                                        $   4,311       $  5,930
                                                                                        =========       ========
</TABLE>

SFAS No. 109  requires  the  reduction  of  deferred  tax assets by a  valuation
allowance if, based on the weight of available evidence,  it is more likely than
not that some or all of the  deferred  tax  assets  will not be  realized.  As a
result of certain  limitations  on the use of net operating  loss  carryforwards
acquired in the ERA acquisition,  a valuation allowance has been established for
those net operating losses not likely to be realized.

A reconciliation of the U.S. federal  statutory rate to the Company's  effective
tax rate is as follows:

                                              1997         1996          1995
                                             ------       ------        ------

         Statutory federal rate                  34%          34%           34%
         Effect of state taxes                    5            6             6
         Other                                   -             3            -
                                             ------       ------        ------
                                                 39%          43%          40%
                                             ======       ======        ======

Net operating loss carryforwards for federal tax purposes totaled  approximately
$490,000 at December  31,  1997.  The use of these  carryforwards  is limited to
$67,000 per year and they expire through 2003.

(7)   COMMITMENTS AND CONTINGENCIES:

In March 1995, the Company entered into a non-cancelable operating lease for its
primary  manufacturing  facility in Manila,  the Philippines.  The lease expires
December  31, 1999.  In April 1995,  the Company  entered into a  non-cancelable
operating  lease  for  an  additional  manufacturing  facility  in  Manila,  the
Philippines.  In February  1997,  the Company  exercised its option to renew the
lease for two years. The lease expires March 31, 1999.

Rent  expense was  approximately  $793,000,  $477,000 and $683,000 for the years
ended December 31, 1997, 1996, and 1995, respectively.

In April 1994, the Company  entered into a ground lease (with purchase  options)
on a 5.7 acre site in Tempe,  Arizona.  Annual lease  payments  under the ground
lease,  which will expire on March 31,  2069,  subject to renewal  and  purchase
options as well as termination  provisions,  will average approximately $100,000
over the term of the lease  subject  to  certain  escalation  provisions.  A new
design,   manufacturing,   and  corporate   headquarters   facility   containing
approximately  97,000 square feet was completed on the land in 1995 at a cost of
approximately $10.4 million.
                                      F-15
<PAGE>
The Company's future lease commitments under the non-cancelable operating leases
as of December 31, 1997, are as follows (in thousands):

                  1998                             $    419
                  1999                                  372
                  2000                                  100
                  2001                                  100
                  2002                                  100
                  Thereafter                          6,625
                                                   --------
                                                   $  7,716
                                                   ========

The  Company is involved in certain  administrative  proceedings  arising in the
normal course of business. In the opinion of management, the Company's potential
exposure under the pending administrative proceedings is adequately provided for
in the accompanying financial statements.

(8)   GEOGRAPHIC SEGMENTS:

Sales by geographic  area and  identifiable  assets for the years ended December
31, 1997, 1996, and 1995 were as follows:
<TABLE>
<CAPTION>
                                                   North
                                                  America      Europe      Pacific Rim  Eliminations    Consolidated
                                                 ---------    ---------    -----------  ------------    ------------
                                                                            (in thousands)
<S>                                              <C>          <C>          <C>           <C>              <C>
December 31, 1997:
   Net sales                                     $  73,887    $  10,755    $      -      $       -        $  84,642
   Transfers to Europe                               9,136           -            -          (9,136)             -
   Transfers to North America                           -            -         3,107         (3,107)             -
                                                 ---------    ---------    ---------     ----------       --------

           Total revenue                         $  83,023    $  10,755    $   3,107     $  (12,243)      $  84,642
                                                 =========    =========    =========     ==========       =========
   Net income                                    $   4,728    $     404    $      65     $       46       $   5,243
                                                 =========    =========    =========     ==========       =========
   Identifiable assets                           $  61,307    $   4,896    $   7,431     $     (799)      $  72,835
                                                 =========    =========    =========     ==========       =========

December 31, 1996:
   Net sales                                     $  32,899    $  27,814    $      -      $       -        $  60,713
   Transfers to Europe                              25,810           -            -         (25,810)             -
   Transfers to North America                           -            -         1,494         (1,494)             -
                                                 ---------    ---------    ---------     ----------       --------

           Total revenue                         $  58,709    $  27,814    $   1,494     $  (27,304)      $  60,713
                                                 =========    =========    =========     ==========       =========
   Net income (loss)                             $  (4,005)   $      19    $      12     $      143       $  (3,831)
                                                 =========    =========    =========     ==========       =========
   Identifiable assets                           $  52,951    $   3,824    $   6,164     $     (370)      $  62,569
                                                 =========    =========    =========     ==========       =========

December 31, 1995:
   Net sales                                     $  24,235    $  67,350    $      -      $       -        $  91,585
   Transfers to Europe                              60,361           -            -         (60,361)             -
   Transfers to North America                           -            -         1,437         (1,437)             -
                                                 ---------    ---------    ---------     ----------       --------

           Total revenue                         $  84,596    $  67,350    $   1,437     $  (61,798)      $  91,585
                                                 =========    =========    =========     ==========       =========

   Net income (loss)                             $   5,093    $   3,353    $     (46)    $       17       $   8,417
                                                 =========    =========    =========     ==========       =========
   Identifiable assets                           $  50,779    $   8,491    $   7,789     $   (3,279)      $  63,780
                                                 =========    =========    =========     ==========       =========
</TABLE>
                                      F-16
<PAGE>
                            THREE-FIVE SYSTEMS, INC.
          SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
             FOR THE YEARS ENDED DECEMBER 31, 1997, 1996, AND 1995
<TABLE>
<CAPTION>
                             Balance at   Charged to      Charged to                    Balance at
                             Beginning     Costs and        Other                         End of
                             of Period     Expenses        Accounts      Other            Period
                             ---------     --------        --------      -----            ------
                                 (in thousands)

<S>                           <C>           <C>              <C>         <C>              <C>
Allowance for doubtful accounts and sales returns and allowances:
-----------------------

Year ended
December 31, 1997             $  649         (105)           36(1)         --             $  580

Year ended
December 31, 1996             $  603           14            32(1)         --             $  649

Year ended
December 31, 1995             $  604          (36)           35(1)         --             $  603


Inventory Reserve:
------------------


Year ended
December 31, 1997             $6,782        1,114                        (3,587)(2)       $4,309

Year ended
December 31, 1996             $2,767        5,939           142(2)       (2,066)(2)       $6,782

Year ended
December 31, 1995             $1,548        1,563           391(3)         (735)(2)       $2,767
</TABLE>

(1) Actual return activity
(2) Obsolete inventory written off
(3) Inventory adjustments
                                      S-1