U.S. SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   FORM 10-KSB

                Annual Report Pursuant to Section 13 or 15(d) of
                       the Securities Exchange Act of 1934
                   For the fiscal year ended December 31, 1996
                         Commission file number 1-12337

                                 QC Optics, Inc.
                  ---------------------------------------------
                 (Name of Small Business Issuer in Its Charter)

          Delaware                                              04-2916548
          --------                                              ----------
  (State or Other Jurisdiction                               (I.R.S. Employer
of Incorporation or Organization)                           Identification No.)

154 Middlesex Turnpike, Burlington, Massachusetts                 01803
-------------------------------------------------                 -----
   (Address of Principal Executive Offices)                     (Zip Code)

                                 (617) 272-4949
                                 --------------
                (Issuer's Telephone Number, Including Area Code)

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

                                                         Name of Each Exchange
Title of Each Class                                       on Which Registered
-------------------                                       -------------------
Common Stock, $.01 par value per share                  American Stock Exchange
Redeemable Warrants                                     American Stock Exchange

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

     Indicate by check mark whether the issuer (1) filed all reports required to
be filed by Section 13 or 15(d) of the  Securities  Exchange  Act of 1934 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
                          ---                            ---
     Indicate by check mark if disclosure of delinquent  filers pursuant to Item
405 of Regulation S-B is not contained herein, and will not be contained, to the
best  of  the  registrant's   knowledge,  in  definitive  proxy  or  information
statements  incorporated  by  reference  in Part III of this Form  10-KSB or any
amendment to this Form 10-KSB. X
                              ---
     The  issuer's  net sales for the fiscal year ended  December  31, 1996 were
$13,577,104.

     The aggregate market value of the voting stock held by non-affiliates based
upon the  closing  price  for such  stock on March  26,  1997 was  approximately
$4,232,663.  As of March 26, 1997,  3,242,500  shares of Common Stock,  $.01 par
value per share,  and 1,092,500  Redeemable  Warrants,  of the  registrant  were
issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

         The Definitive  Proxy  Statement for the Annual Meeting of Stockholders
         for the fiscal year ended  December 31, 1996,  to be filed  pursuant to
         Regulation  14A, is  incorporated by reference in Part III of this Form
         10-KSB.

         Transitional Small Business Disclosure Format (check one):

                   Yes                             No  X
                       ---                            ---





                                     PART I

ITEM 1.           DESCRIPTION OF BUSINESS.

     This  report  contains  forward-looking  statements  regarding  anticipated
increases  in revenues,  marketing  of products and proposed  products and other
matters.  These  statements,  in addition to statements made in conjunction with
the words "anticipate,"  "expect,"  "intend,"  "believe," "seek," "estimate" and
similar  expressions  are forward-  looking  statements that involve a number of
risks and uncertainties.  The following is a list of factors, among others, that
would  cause  actual  results  to  differ  materially  from the  forward-looking
statements:  business  conditions  and growth in  certain  market  segments  and
general  economy,  an increase in  competition,  increased or  continued  market
acceptance of the Company's products and proposed products,  and other risks and
uncertainties  indicated  from time to time in the  Company's  filings  with the
Securities and Exchange Commission.


         GENERAL

     QC Optics, Inc. (the "Company" or "QCO") designs,  manufactures and markets
laser based defect detection systems for the  semiconductor,  flat panel display
and  computer  hard  disk  drive  markets.  QCO  uses  its  patented  and  other
proprietary  technology in lasers and optical  systems that scan a computer hard
disk,  photomask  or flat  panel  display  for  defects  or  contamination.  The
Company's systems combine automatic handling, clean room capability and computer
control with reliable laser based  technology.  The Company  believes that these
features  enable the Company to maintain a leading market position in the United
States in the  semiconductor,  flat panel  display and computer  hard disk drive
industries  where  high  quality  inspection   capabilities  are  required.  The
Company's  customers  include many of the world's largest leading  semiconductor
and  computer  hard  disk  manufacturers.  Currently,  QCO has over 200  systems
installed in fourteen countries.

     QCO was formed in 1986 as a Delaware corporation to acquire the assets of a
division  of  GCA  Corporation.  The  Company  funded  its  product  development
primarily  with equity  investments  and debt financing from Kobe Steel Ltd. and
its   subsidiaries   including  Kobe  Steel  USA  Holdings,   Inc.,  a  Delaware
corporation,  and Kobe Steel USA  International,  Inc.,  a Delaware  corporation
(collectively, "Kobe Steel"). From 1986 to 1990, the Company focused its efforts
in developing  inspection  systems for computer hard disk inspection.  Using the
Company's patented and proprietary information, the Company expanded its efforts
to use this  technology  for inspection of photomasks  used to image  integrated
circuit patterns onto  semiconductor  wafers.  In early 1996,  management of the
Company  exercised an option granted in 1995 to acquire a 62.2% equity  interest
through  a  management  buyout  with bank  supplied  debt  financing  personally
guaranteed by QCO's senior management.

     The Company  introduced  its QCO-4000  automatic  pelliclized (a protective
cover)  photomask laser based  inspection  systems in March 1996,  which has the
sensitivity  to  detect  defects  or   contamination  of  0.3  micrometers  (the
equivalent of 0.06 micrometers on the semiconductor wafer),

                                       -2-





which  will  be  required  to  detect   defects  in  the  next   generation   of
semiconductors.   As  semiconductor   devices  have  become  more  complex,  the
semiconductor  manufacturing  process has become  very  sensitive  to  photomask
errors,  requiring  more  complex  photomasks  and,  as a  result,  increasingly
sophisticated photomask inspection tools.

     The Company's systems, such as its API-3000/5 and DISKAN-6000, are designed
to fit into its customers'  production  line virtually  eliminating the need for
special  handling  or  special  production   procedures  while  performing  100%
inspection  throughout  the process.  In addition,  these systems sort out fatal
defects on disks and  pelliclized  photomasks  before  they cause  manufacturing
yield or other quality  problems.  As more  manufacturers of computer hard disks
move toward total  inspection  protocols  versus  statistical  sampling,  demand
during the past year for the Company's  products which can inspect computer hard
disks has increased  significantly.  The Company is also working on research and
development for porting, which is applying the Company's technology in its other
systems, to the inspection of flat panel displays.

     QCO's  principal  offices  and   manufacturing   facilities  are  based  in
Burlington,  Massachusetts. The Company also maintains regional sales or service
personnel in Texas,  Florida, New Mexico,  Oregon,  Arizona and California.  The
Company  currently  has  approximately  60  employees  and  has   manufacturer's
representatives in Europe and distributors in Asia.


MARKETS

     The Company  currently  serves three markets with its  inspection  systems:
semiconductors,  computer hard disks and flat panel displays.  In addition,  the
Company plans to continue to develop additional products, based on the Company's
existing patented and proprietary  technologies,  to further develop laser based
inspection systems.

     The Company's core technology  inspects by illuminating  critical  surfaces
and examining  and analyzing  light  reflected  from the surface.  This analysis
allows the end user to analyze and  determine the type of defect on the surface.
Lasers are used to provide the stable high  intensity  light  source  needed for
these inspection processes.  Certain ultraviolet light lasers are used to detect
smaller defects. The angular distribution and the intensity of the reflected and
scattered  light from the surface  provides a  "fingerprint"  of the surface and
defects. This information passes through analog and digital signal processes and
is then analyzed using the Company's proprietary software.

SEMICONDUCTOR PHOTOMASK INSPECTION SYSTEMS

     In  the  manufacture  of  semiconductors,  photomasks  are  used  to  image
integrated  circuit  patterns onto silicon wafers.  Semiconductor  manufacturing
begins with the creation of a photomask,





                                       -3-





in which the circuit design is written onto the photomask,  one layer at a time.
A wafer stepper uses the photomask like a photographic  negative to rapidly make
numerous  repetitive  images of the  circuit  pattern on the wafer.  The stepper
transfers light through the photomask onto  photoresist  that is spread over the
surface of the wafer.  Those areas of the photoresist  that have been exposed to
light are dissolved by chemical  developers,  and the exposed areas of the layer
under the resist are then  etched.  A different  photomask  is required for each
layer of the integrated circuit. Successive steps of deposition, lithography and
etch build the layers of patterns that make up a single integrated circuit.

     In the 1990s,  a number of  advancements  in photomask  design have allowed
manufacturers  to  manufacture  integrated  circuits with  increasingly  smaller
linewidths.  These linewidths are now as low as 0.5 micrometers and less. In the
late 1980s and early 1990s, the development of a number of technologies  allowed
photomasks to be used much more efficiently.  During this period, the demand for
photomask   inspection   equipment  was  less  than  the  increased  demand  for
semiconductors   as   more   advanced    photomask    technologies,    such   as
computer-automated design equipment and pellicles, were utilized.  Pellicles are
a thin  transparent  membrane  suspended  over the photomask  surface on a frame
mounted to the photomask.  The pellicle  increases  semiconductor  manufacturing
yields by  preventing  airborne  particles  from falling onto the surface of the
photomask and printing as defects on the wafer.  Since their introduction in the
early 1980s,  pellicles have significantly  reduced the need to clean photomasks
during  production,  thus  substantially  extending  the  life  of a  photomask.
Accordingly,  the introduction of pellicles  significantly reduced the number of
photomasks required in high volume semiconductor device manufacturing.

     Management believes that the increased complexity in semiconductor  devices
has recently contributed to high demand for complex photomasks and for increased
sophistication in photomask inspection equipment.  As semiconductors become more
and more  complex,  the  potential  for  defects in  photomasks  has  increased.
Similarly,  demand  for  inspection  of  photomasks  has  increased  to  improve
manufacturing  yields by identifying  defects or contaminations in photomasks as
early as possible.  Quickly attaining and then maintaining high yields is one of
the most important determinants of profitability in the semiconductor  industry.
The Company believes that its customers  typically  experience rapid paybacks on
their investments in the Company's inspection systems.  Semiconductor  factories
are increasingly  expensive to build and equip.  Yield management and monitoring
systems,  which typically  represent a small  percentage of the total investment
required to build and equip a fabrication  facility,  enable integrated  circuit
manufacturers  to leverage these expensive  facilities and improve their returns
on investment. In addition to utilizing state-of-the-art inspection systems on a
statistical basis to improve manufacturing yields,  semiconductor  manufacturers
increasingly  demand the ability to inspect  photomasks during the manufacturing
process to provide real time inspection  capability.  In-process inspection is a
critical yield enhancement and cost reduction technique because it allows defect
detection in real-time rather than waiting until after final test results become
available to discover problems that have a significant negative impact on yield.


                                       -4-





     The semiconductor  industry has recently experienced a slow down in capital
spending.  The overall semiconductor  industry has been and could continue to be
cyclical with periods of oversupply. A downturn in the demand for semiconductors
would likely  reduce the demand for  photomasks as well as reduce the demand for
photomask  inspection  equipment or,  alternatively,  place pricing  pressure on
photomask inspection equipment vendors. The Company's ability to reduce expenses
in response to any such downturn is limited by its needs for continued  research
and development expenses and in customer service and support. Previous downturns
in capital investment by the semiconductor  fabrication industry have materially
affected the operating results of other businesses in the semiconductor  capital
equipment  industry and future  downturns may have similar adverse  effects.  In
order to address these concerns,  the Company sells its inspection  technologies
into other markets,  such as computer hard disk inspection,  and plans to expand
into other emerging markets, such as flat panel displays.

COMPUTER HARD DISK INSPECTION

     Disk drive manufacturers use advanced deposition  processes to produce thin
film disks. In order to assure  cost-effective  yields, disk drive manufacturers
are switching from  low-volume  sample  inspection to production line inspection
techniques, rapidly increasing the demand for inspection of computer hard disks.
This  demand is also  driven  by more  memory  requirements  on the same size or
smaller  disks.  Any defect or  contaminant  on the disk increases the risk that
memory  cannot be properly  stored.  Defect  detection  includes  inspection  of
substrates  and in process  computer hard disks.  The Company  believes that the
demand for production line inspection of computer hard disks could  dramatically
increase the demand for its computer hard disk inspection products.

FLAT PANEL DISPLAYS

     Over  time,  the  use of  flat  panel  displays  ("FPDs")  is  expected  to
significantly  replace  vacuum tube  monitors used in  televisions  and computer
monitors,  providing  users with  quality  images on less bulky  displays.  This
market is in the very  early  stages of  commercial  development  in the  United
States and extensive  funding by government and industry  consortia,  as well as
private efforts to advance this technology,  are proceeding at a fast pace. FPDs
are currently being designed to include  electronic  substrates  which undergo a
lithography  process similar to semiconductors as well as glass substrates which
require  inspection prior to the lithography  process.  Following the management
buyout,  the Company now  qualifies  to join United  States  government-industry
consortia   which  have  been   formed  to  help  speed  the   development   and
commercialization  of the flat panel display industry in the United States.  The
Company has already  collaborated with several companies,  including one Fortune
100 company, to speed the development of technology solutions in this market.

     The market for FPDs has grown  significantly in recent years as a result of
the increasing  popularity of portable  computers and other  electronic  devices
which  utilize  screens and other types of  displays to provide  information  in
digital  format and  graphical  displays to the end user.  The weight and narrow
form factor of FPDs are enabling new display  applications  where the previously
predominant monitor technology,  cathode ray tubes ("CRTs"),  did not allow such
use. Laptop and

                                       -5-





notebook computers,  personal digital assistants,  portable video games, digital
phones and a variety of  devices  for the  automotive,  technical,  medical  and
military  markets are examples of  electronic  products in fast growing  markets
which  cannot be served  by CRT  technology.  The FPD  market  is  estimated  by
Stanford Resources, Inc. ("Stanford Resources"),  a market research firm located
in San Jose, California,  to have grown from approximately $2 billion in 1990 to
approximately  $10.7 billion in 1995, and is estimated to grow to  approximately
$18 billion by the year 2001. The Company  expects that FPD  manufacturers  will
increase their purchases of inspection  equipment in response to both the growth
in the FPD market as well as the shift to larger and higher resolution displays.

     Different  applications  for FPDs have varying cost,  size and  performance
requirements,  and alternative FPD  technologies  have been developed to address
these different  applications.  Different types of FPDs that are currently being
produced to address  certain  segments in the broader FPD market  include liquid
crystal ("LCD"),  plasma,  electroluminescent  ("EL") and field emissive ("FED")
displays and digital  micro-mirror  devices ("DMDs").  Currently the most common
type of FPD is the LCD,  which first emerged in the form of watch and calculator
displays in the 1970s.  The most  advanced  form of LCD  available  today is the
AMLCD  which  utilizes  three  individual  emissive  transistors  at each pixel,
enabling  the AMLCD  both to produce  full  color  images and to operate at much
faster refresh rates than earlier passive monochrome LCDs. The color capability,
resolution,  speed and picture quality of AMLCDs currently make these displays a
preferred choice for high performance  portable  computer,  multimedia and other
applications  requiring  the display of video and graphics.  Stanford  Resources
estimates that AMLCDs  represented more than 50% of the overall dollar volume of
the FPD market in 1995.  The trend toward  higher  resolution  video and graphic
displays has been reflected in a generational  movement from VGA displays (640 x
480 lines of resolution) to higher  resolution SVGA displays (800 x 600 lines of
resolution)  which in turn are anticipated to be replaced by the next generation
XGA  displays  (1,280 x 1,024  lines of  resolution).  To achieve  these  higher
resolution  display  capabilities and enhanced  picture  quality,  the number of
pixels  utilized in AMLCDs is increased  which in turn  increases the complexity
associated with the manufacture of these displays.

STRATEGY

     The  Company's  goal is to maintain a leadership  position in the photomask
and  computer  hard disk  inspection  system  markets and use its  patented  and
proprietary  technology  to  pursue  other  opportunities  in  high  performance
inspection  systems.  The  Company  intends to  achieve  this goal  through  the
implementation of the following strategies:

         *        Expand  Marketing  Efforts for  Existing  Products.  Since its
                  introduction  of photomask and computer  hard disk  inspection
                  systems,  the  Company's  objective  has  been to  expand  its
                  leadership  position  in these  fields.  The  Company  is also
                  working to extend its sales and marketing  activities  outside
                  of the United  States into Europe and Asia,  where the Company
                  believes   very  sizable   market  demand  exists  for  state-
                  of-the-art  inspection systems in both photomasks and computer
                  hard  disks.   In  particular,   the  Company   believes  that
                  significant demand exists in Korea, Singapore,

                                       -6-





                  Malaysia,  and  other  areas  in  Asia.  In  addition,  in the
                  computer hard disk market,  the Company  intends to market its
                  computer hard disk inspection systems for 100% production line
                  inspection versus statistical sampling inspection.

         *        Maintain Technology Leadership Position.  Since its formation,
                  the  Company's  objective  has been to  maintain a  leadership
                  position  in  inspection   technology  in  the  photomask  and
                  computer  hard disk  inspection  system  markets.  To maintain
                  technology leadership, the Company intends to continue to work
                  closely with major customers, several of which are the leading
                  suppliers of microprocessors  and computer hard disks in their
                  respective  industries.  Now that a majority of the Company is
                  no longer owned by a foreign company,  the Company is eligible
                  and intends to join  government-industry  consortia to develop
                  leading edge  technologies  for existing and other  inspection
                  markets  not yet  served  by the  Company.  In  addition,  the
                  Company believes that the recent management buyout, as well as
                  the funds  received  from its initial  public  offering,  will
                  increase  its  attraction  as a  joint  venture  or  strategic
                  alliance  partner with other  semiconductor  and computer hard
                  disk manufacturers.

         *        Broaden Product  Offerings through  Acquisitions.  Although no
                  acquisition is currently planned and there can be no assurance
                  that the Company will complete any  acquisition;  QCO plans to
                  expand its activities in related inspection  markets,  such as
                  the  expected  market for flat panel  displays.  In  addition,
                  there  are a number of  smaller  companies  in the  inspection
                  market  that  have   technology  and  market  links  with  the
                  Company's existing businesses, including material handling and
                  stocking equipment, cleaning equipment, and related products.

         *        Provide  Broad Range of Photomask  Inspection  Solutions.  The
                  Company's  strategy is to provide a broad  range of  technical
                  solutions,  leveraged  off  of  existing  technologies,   with
                  different   performance   characteristics.   Certain   of  the
                  Company's  inspection  systems  currently address less complex
                  photomask  designs while new  products,  such as the QCO-4000,
                  are  designed  to address  the most  sophisticated  photomasks
                  currently used.

         *        Leverage Installed Base. In marketing new products to existing
                  customers,  the  Company  intends  to  leverage  its  existing
                  customer  base  to  upgrade  the  over  200  Company   systems
                  currently in the field with new product offerings. Many of the
                  Company's  products are built with modular  systems  which are
                  designed to  facilitate  future  enhancements,  as well as new
                  system software.

         *        Expand  Customer  Support  Services.   The  Company  currently
                  provides local support and service with  personnel  located in
                  California,  Texas, New Mexico, Oregon, Florida and Arizona in
                  addition  to  its  principal   engineering   services  at  its
                  Burlington, Massachusetts headquarters. The Company intends to
                  expand the number of customer support sites in both the United
                  States and  overseas to help  facilitate  customer  support as
                  well as support future sales opportunities.

                                       -7-





PRODUCTS AND SERVICES

     QCO's current  products  consist of photomask,  computer hard disk and flat
panel display inspection systems.  The Company's systems are designed to provide
a lower cost of ownership through high performance,  reliability and integration
into the manufacturing process. The Company utilizes a number of different forms
of lasers in its laser based  inspection  systems,  allowing it to cover a broad
range of technical requirements and cost sensitivities for its customers.

     Many  of  QCO's  newer  systems  are  designed  to fit  into  its  customer
production  lines  virtually  eliminating  the  need  for  special  handling  or
production  procedures while performing 100% inspection  throughout the process.
QCO's systems sort out fatal defects on disks and pelliclized  photomasks before
they become manufacturing yield or other quality problems. Many of QCO's systems
have  the  sensitivity  to  detect  defects  or  contamination   less  than  0.5
micrometers.  The Company also  introduced its new QCO-4000 in March 1996.  This
new system has the ability to detect defects or contamination of 0.3 micrometers
(the equivalent of 0.06 micrometers on the semiconductor  wafer),  which will be
required to detect defects in the next  generation of  semiconductors.  Specific
Company products include the following:

     QCO-4000:   The  QCO-4000   represents  what  the  Company  believes  is  a
state-of-the-art breakthrough for inspecting pelliclized photomasks.  Defects on
complex,   small  featured   photomasks  are   non-destructively   detected  and
characterized  with a  sensitivity  down to .25  micrometers,  using the  latest
technologies  in  ultraviolet  argon  ion laser  optics  and  innovative  signal
processing.  The QCO-4000 is capable of inspecting all four critical surfaces of
the photomask,  which are the front and back pellicles and the front and back of
the  photomask.  The QCO-4000  also provides for  inspection  both on a sampling
basis as well as 100%  inspection.  This  allows  this  system  to be  extremely
versatile  for needs  ranging  from  incoming  inspection  to  complete  process
characterization   and   documentation.   Utilizing   advanced  systems  control
technology,  the operator has complete  control over all system  operations  and
decisions. Computers incorporated in the product and several communication ports
allow the  QCO-4000  to be easily  integrated  into the  manufacturing  process,
manufacturing resource planning ("MRP") and similar systems. The average selling
price for this system is approximately $900,000 to $1,300,000,  although various
options can increase or reduce the cost of a specific system.

     API-3000/5:  This automatic  pelliclized  photomask inspection system has a
sensitivity  of 0.5  micrometers  and is compatible  with many of the photomasks
most  commonly  used in  today's  semiconductor  manufacturing  processes.  This
product is used by  semiconductor  manufacturers  to qualify the photomask  just
prior to its use on  lithography  equipment as well as for incoming  inspection.
Photomask  manufacturers  utilize  the  system for final  inspection  as well as
process  control.  The average  selling  price for this system is  approximately
$500,000 to $750,000,  although  various options can increase or reduce the cost
of a specific system.

                                       -8-





     RSO  (Reticle  System  One):  The RSO is a cluster  tool  incorporating  an
API-3000/5  inspection system, a cassette handling system (which holds cassettes
of photomasks) which loads photomasks into lithography equipment cassettes,  and
an original  equipment  manufacturer  ("OEM")  photomask  stocker with a storage
capacity  of  between  740  and  1500   photomasks.   The  RSO  is  utilized  by
semiconductor  manufacturers  for photomask  management and can eliminate manual
handling and the associated  risks of damage and  contamination of the photomask
once incoming  inspection is  accomplished.  The average  selling price for this
system is  approximately  $1,500,000,  although  various options can increase or
reduce the cost of a specific system.

     API-1100: This equipment is a photomask blank  inspection  system with full
automatic  handling  capable of detecting  pinholes and particulates as small as
0.3  micrometers.   This  product  is  utilized  by  photomask  blank  substrate
manufacturers  for final  inspection and transfers the finished product directly
into a shipping cassette from a process cassette.  Quartz manufacturers also use
this equipment for final  inspection.  The average selling price for this system
is approximately $300,000 to $600,000,  although various options can increase or
reduce the cost of a specific system.

     DISKAN  SERIES:  These are  computer  hard  disk  inspection  systems  with
integrated  automatic  handling,  manual handling and external handling systems.
DISKANs are used by magnetic media and other  substrate  manufacturers  for both
100% inspection and sample  inspection.  In the United States,  all of the major
media  manufacturers  use the  DISKAN for sample  inspection  on their  lines to
achieve process control. In 1996, the Company has experienced  increasing demand
by manufacturers to incorporate DISKANs directly in the production line for 100%
inspection.  The average selling price for this system is approximately $130,000
to  $300,000,  although  various  options  can  increase or reduce the cost of a
specific system.

     API-1100FP:  The  API-1100FP is the Company's  first product to address the
inspection  demands  for  flat  panel  display  substrates  inspection  systems,
including systems with automatic handling  capability.  This product is utilized
for process control by flat panel display  manufacturers,  as well as flat panel
display glass substrate manufacturers. The average selling price for this system
is approximately $300,000 to $600,000,  although various options can increase or
reduce the cost of a specific system.

PRODUCTS UNDER DEVELOPMENT

     The  Company's   product   development   strategy  is  to  make  continuous
improvements   to  its  existing   product  line  relying  on  its   proprietary
technologies and to expand prior development efforts in applications  related to
the markets it serves.  The Company  currently  has an  engineering  and product
development  staff of 16  individuals  who assist  the  Company's  customers  in
integrating the Company's  products into the customer's work  environment.  This
engineering  work  provides  the Company an  opportunity  to keep abreast of new
market opportunities for the Company's technologies.


                                       -9-





     Currently  the  Company  is working  on  product  enhancements  to both its
QCO-4000 and DISKAN product lines. The Company is commencing  early  development
activities  for the next  generation  of the  photomask  inspection  market  and
anticipates  introducing  a new product in 1998 which will  provide  even higher
sensitivities  in measurements  than currently  provided with the QCO- 4000. The
Company  is  also  working  on  a  transfer   system  which  will  allow  it  to
automatically  handle different  photomask storage boxes.  Currently many of the
photomasks are in different  sizes and are kept in different  sizes and types of
storage  boxes.  The new  transfer  system is  designed  to allow the systems to
automatically  handle the boxes so that the  photomasks  will never be  manually
handled.  Management expects that this new system will significantly  reduce the
risk of contamination or damage to the photomask. The Company believes that this
system will allow it to be the only Company that can handle all of the different
photomasks  used in stepper  systems.  In addition,  the Company  continues  its
efforts in the flat panel  display  market to modify its  existing  products for
research  and  development  in  the  inspection  of  flat  panel  displays.  The
technology used in flat panel displays will continue to evolve  significantly in
the near term and as a result,  the Company  expects that it will be required to
continue  to  spend   significant   efforts  in  improving  and  developing  new
technologies for the flat panel display markets.

     The Company's  success in developing and selling new and enhanced  products
depends  upon a variety of  factors,  including  accurate  prediction  of future
customer requirements,  introduction of new products on schedule, cost-effective
manufacturing  and product  performance in the field.  The Company's new product
decisions and development  commitments  must anticipate the equipment  needed to
satisfy the requirements  for inspection  processes one or more years in advance
of sales. Any failure to accurately predict customer requirements and to develop
new  generations of products to meet those  requirements  would have a sustained
material  adverse  effect on the  Company's  business,  financial  condition and
results of operations.  New product  transitions could adversely affect sales of
existing  systems,  and product  introductions  could  contribute  to  quarterly
fluctuations in operating results as orders for new products commence and orders
for existing products or enhancements of existing products fluctuate.

CUSTOMER SERVICE AND SUPPORT

     In addition to selling  and  installing  standard  products  and  providing
support services, the Company also provides individualized  engineering services
for customers as well as technical support  worldwide.  In addition to providing
technical support,  the Company's service and support personnel advise customers
about product  applications,  provide customer  training,  coordinate  upgrades,
manage spare parts and provide preventative maintenance.

     The  Company's  warranty  obligations  for its  systems  generally  cover a
12-month  period  beginning  upon  final  customer  acceptance.   However,  many
customers  request service and support beyond the warranty  period.  The Company
has  historically  derived less than 10% of its revenues from annual service and
maintenance for its installed base of systems. Some of the Company's systems are
currently  serviced under service contracts and other customers purchase repairs
on a labor and  materials  basis.  Service  revenues  for the fiscal  year ended
December 31, 1996 and the

                                      -10-





fiscal year ended December 31, 1995 were $1,210,508 and $614,590,  respectively.
Historically,   warranty   expenses  have  been  consistent   with   established
allowances.

CUSTOMERS

     The  Company's  customers  include  semiconductor  fabricators,   photomask
fabricators  and  suppliers,  computer  hard disk  manufacturers  and  customers
interested in developing flat panel displays. Repeat sales to existing customers
represent a  significant  portion of the  Company's  product  revenues,  and the
Company  believes  that its  installed  base of over 200  systems  represents  a
significant competitive advantage, particularly in the United States.

     Historically,  the Company has sold a significant proportion of its systems
to a limited number of customers as the markets that the Company participates in
are  primarily  dominated by a few major  companies.  Sales to the Company's ten
largest customers accounted for approximately 75% and 95% of net sales in Fiscal
1996 and Fiscal 1995, respectively.  Sales to the largest customer accounted for
approximately  22% of total net sales  for  Fiscal  1996 and  Fiscal  1995.  The
failure to replace  sales with sales to other  customers in  succeeding  periods
would  have a  material  adverse  effect on the  Company's  business,  financial
condition  and  results  of  operations.  The  Company  expects  that  sales  to
relatively few customers  will continue to account for a high  percentage of the
Company's  revenues  in any  accounting  period  in the  foreseeable  future.  A
reduction  in  orders  from  any  such  customer  or  the  cancellation  of  any
significant  order  could  have a  material  adverse  effect  on  the  Company's
business,  financial condition and results of operations.  None of the Company's
customers  has entered into a long-term  agreement  requiring it to purchase the
Company's products.

     In  addition,  due to the  substantial  purchase  price  for the  Company's
products and systems, revenues and operating results may vary significantly from
quarter to quarter depending upon the timing of orders and shipments.

SALES AND MARKETING

     QCO markets and distributes its products directly in the United States. The
Company  maintains sales offices in Burlington,  Massachusetts  and Santa Clara,
California,  and  service or sales  personnel  in Arizona,  Oregon,  New Mexico,
Florida and Texas. The Company also sells through manufacturers representatives,
distributors and directly to certain customers internationally.

     Due to the significant  involvement  required to purchase QCO's systems and
their highly  technical  nature,  the sales process is often complex,  requiring
interaction  with several  levels of the customer's  organization  and extensive
technical exchanges,  product demonstrations and commercial  negotiations.  As a
result,  the  sales  cycle  can  often be quite  long.  Purchase  decisions  are
typically made at a high level within the customer's  organization and the sales
process often requires broad participation across the QCO organization, from the
President to the engineers who designed the product.  Accordingly, the Company's
systems typically have a lengthy sales cycle during which the

                                      -11-





Company  may expend  substantial  funds and  management  time and effort with no
assurance that a sale will result.

ENGINEERING AND PRODUCT DEVELOPMENT

     The Company  directs its  engineering  and design  efforts at products  for
which the Company believes there is growing market demand and strong margins. In
particular,  the Company  seeks to meet the  requirements  of its  customers for
products aimed at emerging applications in the semiconductor, computer hard disk
and flat panel  display  inspection  markets by  applying  the latest  available
technology  and the design and  engineering  know-how  gained from the Company's
focus  on  this  market.  For  many  of  its  customers,  the  Company  provides
engineering  and design  support to help  integrate the Company's  products into
production environments. By working closely with these customers, the Company is
exposed to new market opportunities for its products.

     The Company employed 17 individuals in engineering and product  development
as of December  31, 1996.  During  Fiscal 1996 and Fiscal  1995,  the  Company's
engineering expenses totaled approximately  $1,405,000 and $1,587,000,  or 10.3%
and 15.3% of sales, respectively.  The Company expenses all software development
costs as incurred.  During Fiscal Year 1995,  engineering expenses increased due
to efforts in connection with development of the QCO-4000.

     The  Company's   business  strategy  includes  investing  in  or  acquiring
companies which offer the Company access to complementary technologies,  and new
markets  within the  Company's  target  industries.  Historically,  governmental
sources did not fund QCO's product  development efforts as a majority of QCO was
foreign owned.  After the management  buyout, the Company joined SEMI- SEMATECH,
an organization of equipment  manufacturers and suppliers serving SEMATECH,  and
expects to seek  funding  for  product  development  efforts  from  SEMATECH,  a
consortium of semiconductor  manufacturers,  Advanced  Research  Projects Agency
("ARPA") and other governmental and quasi-governmental  agencies,  including the
U.S.  Display  Symposium.  There can be no  assurance  that the Company  will be
successful in obtaining such funding.

COMPETITION

     The  markets  in which the  Company  competes  are  characterized  by rapid
technological  change,  evolving industry standards,  rapid product obsolescence
and intense competition.  Competitors in the semiconductor  photomask inspection
market  include KLA  Instruments,  Hitachi and Nikon.  In the computer hard disk
inspection  market  competitors  include DPI Technology  Systems,  System Seiko,
Phase  Metrics and Hitachi.  Based on the number of  installations,  the Company
believes  it is a  leading  supplier  of  semiconductor  photomask  soft  defect
inspection  systems  and  computer  hard disk  inspection  systems in the United
States.  The  Company  competes  based  on  its  installed  base  of  customers,
engineering  and  service  capabilities,   breadth  of  products,   patents  and
proprietary  information,  and reputation.  Many of the Company's competitors or
potential  competitors  have  greater  financial,  marketing  and  technological
resources than the Company.


                                      -12-





     The Company  expects  competition  to continue in the future from  existing
competitors  and from other  companies that may enter the Company's  existing or
future markets with similar or alternative  solutions that may be less costly or
provide  additional  features.  The Company believes that its ability to compete
successfully  depends on a number of factors,  which include product quality and
performance, order turnaround, the provision of competitive design capabilities,
success  in  developing  new  applications,   adequate  manufacturing  capacity,
efficiency of production,  timing of new product  introductions  by the Company,
its  customers  and its  competitors,  the number  and  nature of the  Company's
competitors in a given market, price and general market and economic conditions.
In  addition,  increased  competitive  pressure  may lead to  intensified  price
competition, resulting in lower prices and gross margins, which could materially
adversely affect the Company's business and results of operations.  No assurance
can be given that the Company will compete successfully in the future.

     The semiconductor,  computer hard disk and flat panel display industries in
general,  are characterized by rapid technological  change and evolving industry
standards.  As a result,  the Company  must  continue  to enhance  its  existing
products and to develop and  manufacture new products and upgrades with improved
capabilities.  This  has  required  and will  continue  to  require  substantial
investments  in research and  development  by the Company to advance a number of
state-  of-the-art   technologies.   Continuous   investments  in  research  and
development   will  also  be  required  to  respond  to  the  emergence  of  new
technologies. The failure to develop, manufacture and market new products, or to
enhance existing products, would have a material adverse effect on the Company's
business,  financial  condition  and results of  operations.  In  addition,  the
Company's  competitors  can be expected to continue to develop and introduce new
and enhanced  products,  any of which could cause a decline in market acceptance
of the Company's products or a reduction in the Company's margins as a result of
intensified price competition.

     Changes in  manufacturing  processes  could also have a materially  adverse
effect on the Company's business, financial condition and results of operations.
The  Company  anticipates  continued  changes  in  semiconductor  and flat panel
display  technologies and processes.  There can be no assurance that the Company
will be able to develop,  manufacture and sell products that respond  adequately
to such changes.

BACKLOG

     The Company's backlog for products and services was approximately  $740,000
at  December  31,  1996.  QCO  defines  backlog to include  only those  systems,
accessories  and  upgrades  with  respect  to which a  purchase  order  has been
received and a delivery  schedule has been  specified for shipment over the next
twelve (12) months, and contracts for services to be provided for longer periods
up to 36  months.  Cancellations  of  product  purchase  orders  are  subject to
penalties,  depending  upon the time of  cancellation.  Although  a  significant
indicator  of business  levels,  backlog is not  necessarily  representative  of
future sales.

                                      -13-





MANUFACTURING

     The  Company's  manufacturing  activities  consist  of  final  assembly  of
subassemblies,  which are then integrated  into finished  systems and tested for
compliance with customer requirements. The Company believes that production lead
time, product quality and customer response are key elements to its success.

     Although the Company  manufactures  some of the  subassemblies  used in its
systems, most are purchased from unaffiliated  subcontractors,  typically to the
Company's  specifications.  None of the  Company's  suppliers  is  obligated  to
provide the Company with any specific  quantity of components  or  subassemblies
over any specific period.  Certain of the components and subassemblies  included
in the Company's  products are obtained  from a limited  group of suppliers.  In
addition,  because the Company  believes that  subsystem  vendors have increased
their  manufacturing  expertise,  the  Company  expects  to  continue  to obtain
virtually all of its components and subassemblies from third parties in order to
devote its resources  toward systems  design,  software  development and systems
integration, its primary areas of competence. To date, the Company has generally
been able to obtain adequate and timely delivery of critical  subassemblies  and
components,   although  it  has  experienced   occasional  delays.  Because  the
manufacture of these  components and  subassemblies is very complex and requires
long lead times, and although  alternative  sources are available,  such sources
may not be readily available. As a result, there can be no assurance that delays
or shortages caused by suppliers will not occur in the future. Any disruption of
the Company's supply of critical  components and subassemblies could prevent the
Company  from   meeting  its   manufacturing   schedules,   which  could  damage
relationships  with customers and would have a materially  adverse effect on the
Company's business, financial condition and results of operations.

     The  Company's  systems  have a large number of  components  and are highly
complex.   To  date,  the  Company  has  experienced   only  limited  delays  in
manufacturing and delivering  systems and upgrades and may experience similar or
more  extended  delays in the future.  Any  inability  to  manufacture  and ship
systems  or  upgrades  on  schedule   could   adversely   affect  the  Company's
relationships  with its customers and thereby  materially  adversely  affect the
Company's business, financial condition and results of operations. Due to recent
increases  in  demand,  the  average  time  between  order and  shipment  of the
Company's systems has increased over the last fiscal year. The Company's ability
to increase its  manufacturing  capacity in response to an increase in demand is
limited given the  complexity  of the  manufacturing  process,  the lengthy lead
times  necessary to obtain  critical  components and the need for highly skilled
personnel.  The failure of the Company to keep pace with  customer  demand would
lead to further  extensions of delivery times,  which could deter customers from
placing  additional  orders,  and could  adversely  affect product  quality.  No
assurance can be given that the Company will be  successful  in  increasing  its
manufacturing capacity.

                                      -14-





GOVERNMENTAL REGULATIONS AND INDUSTRY STANDARDS

     The  Company's  products and worldwide  operations  are subject to numerous
governmental  regulations designed to protect the health and safety of operators
of  manufacturing  equipment.  In  particular,  the  European  Union  ("EU") has
recently issued regulations relating to electromagnetic fields, electrical power
and  human  exposure  to  laser  radiation.   In  addition,   numerous  domestic
semiconductor  manufacturers including certain of the Company's customers,  have
subscribed  to  voluntary  health and safety  standards  and decline to purchase
equipment  not meeting such  standards.  The Company  believes that its products
currently  comply with all applicable  material  governmental  health and safety
regulations,  including  those  of the  EU,  and  with  the  voluntary  industry
standards currently in effect.

PROTECTION OF PROPRIETARY INFORMATION

     The Company  holds eight United States  patents and has an additional  five
patent  applications  pending.  Several of the issued patents are also issued in
Japan,  Europe and Canada. The Company has many patent  applications  pending, a
number of which are associated with the new QCO-4000. Most of the issued patents
relate to advanced inspection measurement  techniques.  The issued United States
patents expire from 2001 to 2114.

     The  Company's   products  require  technical   know-how  to  engineer  and
manufacture and are based, in part, upon proprietary  technology.  To the extent
proprietary  technology  is  involved,  the Company  relies on patents and trade
secrets that it seeks to protect, in part, through  confidentiality  agreements.
No assurance can be given that such  agreements  will not be breached,  that the
Company will have adequate  remedies for any breach, or that the Company's trade
secrets will not  otherwise  become  known to, or  independently  developed  by,
existing or potential  competitors  of the Company.  The Company may be involved
from time to time in  litigation  to  determine  the  enforceability,  scope and
validity  of its  rights.  In  addition,  no  assurance  can be  given  that the
Company's  products  will not infringe any patents of others.  Litigation  could
result  in  substantial  cost to the  Company  and  diversion  of  effort by the
Company's management and technical personnel.

EMPLOYEES

     As of December 31, 1996, the Company had 60 full-time  employees,  of which
17 were in sales,  marketing  and service,  16 were in  engineering  and product
development, 7 were in administration and 20 were in manufacturing.

     None of the  Company's  employees  are  represented  by a labor union.  The
Company considers its relationships  with its employees to be satisfactory.  The
Company's  financial  performance will depend  significantly  upon the continued
contributions of its officers and key management,  technical,  sales and support
personnel,  many of whom would be difficult to replace. In addition, the Company
believes  that certain of its former  employees  currently  provide  services or
technical support to the

                                      -15-





Company's  customers or competitors.  No assurance can be given that the Company
will be successful in attracting or retaining qualified personnel.

ITEM 2.           FACILITIES

     The  Company  maintains  its  principal  executive  offices,  research  and
development, and manufacturing operations in an approximately 30,000 square foot
facility in Burlington,  Massachusetts  leased from N.W.  Building 24 Trust. The
Company  currently  pays base rent in the amount of  approximately  $16,250  per
month plus taxes,  betterment  assessments,  insurance costs and utility charges
with respect to the facility, pursuant to a lease that expires on June 30, 1997.
Although  no  assurance  can  be  given,  the  Company  believes  that  adequate
facilities for its principal  executive  offices,  research and  development and
manufacturing  operations are available at competitive  rates for its needs upon
expiration of its current lease.

     The Company also maintains a sales office in an approximately  1,000 square
foot facility in Santa Clara,  California,  leased from  Koll/Intereal Bay Area.
The Company  currently pays base rent of $1,385 per month plus certain  expenses
related to the facility,  pursuant to a lease that expires on July 21, 1999. The
Company  believes that its  facilities for its sales office are adequate for its
current needs.

     Although no assurance  can be given,  the Company  believes  that  adequate
facilities  for  expansion,  if required,  are available at  competitive  rates.
Although  the Company has no present  plans to acquire  additional  research and
development,  manufacturing or shipping facilities, it may in the future seek to
establish  additional  research  and  development,   manufacturing  or  shipping
facilities as a result of its anticipated growth or acquisitions.

ITEM 3.           LEGAL PROCEEDINGS

     The Company is not involved in any litigation of a material nature.

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

     The  Company  did not submit any  matter  during the fourth  quarter of the
fiscal year covered by this report to a vote of the Company's  security holders,
through the solicitation of proxies or otherwise.


                                      -16-





                                     PART II

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

     The  Company's  Common  Stock is  traded  on the  American  Stock  Exchange
("AMEX")  under the symbol  "OPC." On March 26, 1997,  the closing  price of the
Company's  Common  Stock  as  reported  on the  AMEX was  $3.875.  The Company's
Redeemable  Warrants  are traded on AMEX  under the symbol  "OPC+." On March 26,
1997, the closing price of the Company's  Redeemable Warrants as reported on the
AMEX was $.625.

     As of March 25, 1997,  there were  approximately 9 holders of record of the
Company's  Common Stock and  approximately  6 holders of record of the Company's
Redeemable  Warrants.  Management  believes  that there are over 500  beneficial
owners  of the  Company's  Common  Stock and over 500  beneficial  owners of the
Company's Redeemable Warrants.

     For the periods indicated,  the following table set forth the range of high
and low sale prices for the Company's  Common Stock and  Redeemable  Warrants as
reported by AMEX.

<TABLE>
<CAPTION>
                                                                                            REDEEMABLE
                                                                COMMON STOCK                 WARRANTS
                                                                ------------                 --------
                                                              HIGH         LOW          HIGH         LOW
                                                              ----         ---          ----         ---
         1996
         ----
       <S>                                                 <C>          <C>          <C>          <C>
         Fourth Quarter (from October 24, 1996)(1)            $6.50        $4.75        $1.625       $.625

         1997
         ----
         First Quarter (through March 26, 1997)               $5.875       $3.75        $1.50        $.625

------------------
         (1)      The Company's securities began trading on AMEX on October 24, 1996.
</TABLE>

     The  Company  has not paid cash  dividends  on its Common  Stock  since its
inception and does not anticipate  paying any cash dividends on its Common Stock
in the foreseeable  future.  The Company currently intends to reinvest earnings,
if  any,  in  the  development  and  expansion  of  its  business.   Any  future
determination  with respect to the payment of  dividends  will be subject to the
discretion  of the  Company's  Board  of  Directors  and  will  depend  upon the
earnings,  capital requirements,  and financial position of the Company, general
economic  conditions,  and other pertinent factors.  In addition,  the Company's
agreement  with its primary  bank  lender  prohibits  the  payment of  dividends
without the bank's prior written consent.

                                      -17-





ITEM 6.           MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
                  AND RESULTS OF OPERATIONS.

     The following  discussion and analysis  should be read in conjunction  with
the financial statements and notes thereto appearing elsewhere herein.

RESULTS OF OPERATIONS

     Fiscal Year Ended December 31, 1996 ("Fiscal 1996") Compared to Fiscal Year
Ended December 31, 1995 ("Fiscal 1995")

     Net  sales  for  Fiscal  1996  were  $13,577,104  compared  to net sales of
$10,373,464  for Fiscal  1995,  an  increase  of 30.9%.  The  increase  resulted
primarily from increased demand for the Company's products for the inspection of
computer hard disks.

     Cost of sales for Fiscal 1996 was  $5,900,121 as compared to $4,798,902 for
Fiscal 1995.  As a result of increased  sales,  gross profit for Fiscal 1996 was
$7,676,983 (56.5% of net sales) as contrasted to $5,574,562 (53.7% of net sales)
in Fiscal  1995,  an increase of 37.7%.  The  improvement  in gross  profit as a
percentage  of net sales was due  primarily to the  spreading of fixed  overhead
costs over a larger revenue base.

     Selling,  general and  administrative  expenses increased to $3,824,002 for
Fiscal 1996 (28.2% of net sales) as compared to $2,843,266 in Fiscal 1995 (27.4%
of net  sales).  The  increase  was  due to  increased  commissions  as  well as
increases in administrative staff and expenses.

     Engineering  expenses in Fiscal 1996 decreased to $1,404,850  (10.3% of net
sales) from  $1,586,951  in Fiscal 1995  (15.3% of net sales).  The  decrease in
engineering  expenses of $182,101 or 11.5% from Fiscal 1995 is  attributable  to
higher  materials and consulting  expenses during Fiscal 1995 for development of
QCO-4000.  Engineering  expenses  as a percent of net sales were 10.3% in Fiscal
1996 as compared to 15.3% for Fiscal 1995 primarily due to the 30.9% increase in
net sales.

     The Company recorded a management  buyout charge of $1,701,000 in the first
quarter  of Fiscal  1996  which  represents  a  non-cash,  non-recurring  charge
associated  with the  acquisition  of a 62.2% equity  interest in the Company by
management.  This charge (12.5% of net sales) is not  deductible  for income tax
purposes and as a result of this charge additional paid-in capital was increased
by a like amount. See footnote 9 to the financial statements.

     Net  interest  expense  was  $107,786  (.8% of net sales)  for Fiscal  1996
compared to $156,345 in Fiscal 1995 (1.5% of net sales).  The decrease is due to
lower levels of borrowing during Fiscal 1996.


                                      -18-





     Income before  provision for income taxes was $639,345  (4.7% of net sales)
for Fiscal  1996 as  compared  to  $988,000  in Fiscal 1995 (9.5% of net sales).
Without the non-cash, non-recurring management buyout charge, in Fiscal 1996 the
income  before  provision  for taxes  would have been  $2,340,345  (17.2% of net
sales).

     Due to limitations  on the  utilization of the Company's net operating loss
("NOLs")  carryforwards  and  the  non-deductibility  of the  management  buyout
charge, there was a provision for income taxes of $846,200 for Fiscal 1996. With
the  utilization  of NOLs in Fiscal  1995 the  provision  for  income  taxes was
$79,781. In connection with the management buyout and the issuances of shares in
the Company's initial public offering ("IPO"),  the Company is restricted in the
NOLs it can use in future  fiscal  years in  accordance  with Section 382 of the
Internal Revenue Code of 1986, as amended. As a result of the management buyout,
the Company is limited to approximately $180,000 of loss utilization per year.

     The improvement in net sales and gross profit offset by the  non-recurring,
non-cash  management  buyout  charge and the  inability to fully utilize NOLs in
Fiscal  1996  resulted  in the  Company  incurring a net loss for Fiscal 1996 of
$206,855  (1.5% of net  sales) as  compared  to a net  income in Fiscal  1995 of
$908,219  (or  8.8%  of  net  sales).  Excluding  the  non-cash,   non-recurring
management  buyout charge, the Company would have had net income
of $1,494,145 (11.0% of net sales) in Fiscal 1996.

LIQUIDITY AND CAPITAL RESOURCES

     At  December  31,  1996,  the  Company  had cash and  cash  equivalents  of
$5,022,772,  an increase of  $3,591,808  from  $1,430,964  at December 31, 1995.
Working capital was $7,669,497 at December 31, 1996 as compared to $2,060,723 at
December  31,  1995,  an  increase of  $5,608,774.  Cash  provided by  operating
activities was $3,569,831 during Fiscal 1996 compared to $1,102,581 of cash used
in operating  activities in Fiscal 1995. During Fiscal 1996 and Fiscal 1995, the
Company only made limited investments in property and equipment.

     From time to time since inception, the Company has received loans from Kobe
Steel and its affiliates to meet certain  obligations,  capital expenditures and
general  working capital  requirements  of the Company.  On March 29, 1996, Kobe
Steel USA Holdings,  Inc. made a capital  infusion of $4,250,000 to repay a loan
of $4,250,000  previously  made to the Company by Kobe Steel USA  International,
Inc. In addition,  the Company  repurchased  62.2% of the Company's common stock
(99.5% of the Company was previously held by Kobe Steel USA Holdings,  Inc.) for
$5,000,000.  Payment  for the shares was made with  $3,250,000  from a revolving
line of credit from the  Company's  bank,  $1,000,000 of cash from the Company's
cash accounts and a $750,000 loan from Kobe Steel USA Holdings,  Inc.  which was
paid in full in October  1996 using a portion of the  proceeds of the  Company's
initial  public  offering  in  October  1996  (the  "IPO").  Subsequent  to  the
repurchase,  but prior to the IPO,  the  Company  utilized  cash  provided  from
operations  to reduce  borrowings  under the  revolving  line of credit from the
Company's bank by $3,011,612.


                                      -19-





     In connection with the stock repurchase from Kobe Steel USA Holdings, Inc.,
the Company  entered into a revolving  line of credit with State Street Bank and
Trust  Company.  The  revolving  line of credit  agreement  allows  for  maximum
borrowings  of  $4,000,000  and  requires  monthly  payment of  interest  on the
outstanding balance to maturity on June 30, 1998. Borrowings under the revolving
line of credit  agreement are limited to 80% of qualifying  accounts  receivable
and 10% (not to exceed $350,000) of qualifying  inventory.  Borrowings under the
agreement  bear  interest at the bank's  prime rate (8.25% at December 31, 1996)
plus .5%. The terms of the loan agreement provide for the maintenance of certain
specified  financial ratios including,  but not limited to, quick ratio, debt to
equity and net worth  ratios,  and  restrict  certain  transactions  without the
bank's prior written  consent.  As of December 31, 1996,  the Company was not in
default  of  any of the  covenants  and  provisions  of  the  credit  agreement.
Borrowings  under the agreement are secured by  substantially  all the assets of
the Company.  At December 31, 1996,  the Company had no  borrowings  outstanding
under  the  revolving   credit   agreement  and  availability  of  approximately
$2,025,000.

     On October 24, 1996, the Company's  Registration Statement on Form SB-2 was
declared  effective by the  Securities  and Exchange  Commission and the Company
completed  its IPO of  950,000  shares  of  Common  Stock at $6.00 per share and
950,000 Redeemable Warrants at $.10 per warrant.  Further, on November 15, 1996,
the  underwriters   exercised  their  over-allotment  option  and  purchased  an
additional  142,500  shares  of Common  Stock at $6.00  per  share  and  142,500
Redeemable Warrants at $.10 per warrant. The Company received total net proceeds
of $5,074,311  after deducting  underwriters'  discounts,  commissions and other
offering expenses.

     Based on its current  cash  balances,  current bank credit  facilities  and
anticipated  results of  operations,  management  believes  that the Company has
sufficient  funds to meet its working capital  requirements  for the next twelve
months.  Thereafter,  the  Company  anticipates  that it could  need  additional
financing to meet its current plans for expansion.  No assurance can be given of
the Company's  ability to obtain financing on favorable terms, if at all. If the
Company  is unable to  obtain  additional  financing,  its  ability  to meet its
current plan for expansion could be materially adversely affected.

INFLATION

     To date, inflation has not had a material effect on the Company's business.


                                      -20-





ITEM 7.           FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

     The following financial statements are filed as part of this report:

<TABLE>
<CAPTION>

                                                                                                 PAGE
                                                                                                 ----

<S>                                                                                            <C>
     Report of Independent Public Accountants   ...............................................   F-2
     Balance Sheets as of December 31, 1995 and December 31, 1996..............................   F-3
     Statements of Operations for the years ended December 31, 1995 and
        December 31, 1996......................................................................   F-4
     Statements of Stockholders' Equity for the years ended
        December 31, 1995 and December 31, 1996................................................   F-5
     Statements of Cash Flows for the years ended December 31, 1995
        and December 31, 1996..................................................................   F-6
     Notes to Financial Statements.............................................................   F-7

</TABLE>

ITEM 8.           CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
                  FINANCIAL DISCLOSURE.

     During the two most recent fiscal years of the Company,  there have been no
changes in the Company's independent public accountants or disagreements between
the Company and its independent public accountants.


                                      -21-





                                    PART III

ITEM 9.           DIRECTORS, EXECUTIVE OFFICERS AND CONTROL PERSONS; COMPLIANCE
                  WITH SECTION 16(A) OF THE EXCHANGE ACT.

     The Company intends to file a Definitive Proxy Statement within 120 days of
the  completion  of the  Company's  fiscal year ended  December  31,  1996.  The
information  required by this item is  incorporated  by reference from the Proxy
Statement.

ITEM 10.          EXECUTIVE COMPENSATION.

     The information required by this Item is incorporated by reference from the
Proxy Statement.

ITEM 11.         SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

     The information required by this Item is incorporated by reference from the
Proxy Statement.

ITEM 12.          CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

     The information required by this Item is incorporated by reference from the
Proxy Statement.

ITEM 13.          EXHIBITS AND REPORTS ON FORM 8-K.

         (A)      EXHIBITS.

                  (1)      The following exhibits are filed herewith:

Exhibit
  No.                      Title
  ---                      -----

  11              Earnings Per Share Computations.

  27              Financial Data Schedule.

                  (2) The following exhibits were filed as part of the Company's
Registration  Statement on Form SB-2 (No. 333-07683),  declared effective by the
Commission on October 24, 1996 and are incorporated herein by reference:



                                      -22-




EXHIBIT
  NO.                               TITLE
  ---                               -----

  3a              Certificate of Incorporation, as amended.

  3b              Bylaws, as amended.

  4a              Sections of Bylaws and Certificate of  Incorporation  defining
                  the rights of  securityholders  (contained  in Exhibits 3a and
                  3b).

  4b              Specimen Common Stock Certificate.

  4c              Form of Representative's Warrant Agreement (revised).

  4d              Form of Lock-Up Letters.

  4e              Specimen Warrant Certificate.

  4f              Form of Warrant  Agreement between the Company and the Warrant
                  Agent.

  9               QC Optics  Voting  Trust u/d/t dated as of October 27, 1995 by
                  and among Eric T. Chase, as trustee,  and Eric T. Chase,  Karl
                  Andrew Bernal, Jay L. Ormsby, John R. Freeman, Albert E. Tobey
                  and Abdu Boudour.

  10a             Lease  Agreement  between the Company and Norwest  Building 24
                  Trust, as extended and amended.

  10b             Stock  Repurchase  and  Loan  Repayment  Agreement  among  the
                  Company, Kobe Steel USA Holdings,  Inc., and Eric T. Chase, as
                  trustee of the QC Optics Voting Trust, dated October 27, 1995.

  10c             Agreement and Plan of Merger by and among the Company,  Sally,
                  Inc. and the  Stockholders of Sally,  Inc.,  dated October 30,
                  1995.

  10d             First  Amendment to the Stock  Repurchase  and Loan  Repayment
                  Agreement by and among the Company,  Kobe Steel USA  Holdings,
                  Inc., and Eric T. Chase,  as a trustee and on behalf of the QC
                  Optics Voting Trust, dated March 29, 1996.

  10h             Promissory  Note of QC Optics,  Inc. to State  Street Bank and
                  Trust Company, dated March 29, 1996.



                                      -23-





EXHIBIT
  NO.                               TITLE
  ---                               -----

  10i             Security Agreement (All Assets) by and between the Company and
                  State Street Bank and Trust Company, dated March 29, 1996.

  10j             Credit  Agreement  by and between the Company and State Street
                  Bank and Trust Company, dated March 29, 1996.

  10k             Collateral Assignment of Trademarks and Patents by and between
                  the Company and State  Street  Bank and Trust  Company,  dated
                  March 29, 1996.

  10p             1996 Stock Option Plan.

  10q             1996 Director Formula Stock Option Plan.

  10r             Form of  Employment  Agreements  effective  as of July 1, 1996
                  entered into by and between the Company and Eric T. Chase, Jay
                  L. Ormsby, Albert E. Tobey, K. Andrew Bernal, Abdu Boudour and
                  John R. Freeman.

  10s             Distribution  Agreement by and between ETEC Systems,  Inc. and
                  the Company, dated December 19, 1994.

         (B)      REPORTS ON FORM 8-K.

     No  reports  on Form 8-K have been  filed by the  Company  during  the last
quarter of the period covered by this report.


                                      -24-




                                   SIGNATURES

     In accordance  with Section 13 or 15(d) of the  Securities  Exchange Act of
1934, as amended,  the registrant  caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.

                                        QC OPTICS, INC.



                                        By:/s/ Eric T. Chase
                                           -------------------------------------
                                           Eric T. Chase
                                           President and Chief Executive Officer

     In  accordance  with the Exchange Act, 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                                        Capacity                                    Date
         ----                                        --------                                    ----



<S>                                                 <C>                                        <C>
/s/ Eric T. Chase                                    President, Chief Executive Officer,         March 27, 1997
----------------------------------                   and Chairman of the Board of
Eric T. Chase                                        Directors (Principal Executive
                                                     Officer)


/s/ John R. Freeman                                  Vice President of Finance and               March 27, 1997
---------------------------------                    Treasurer (Principal Financial
John R. Freeman                                      and Principal Accounting Officer)



/s/ Charles H. Fine                                  Director                                    March 27, 1997
--------------------------------
Charles H. Fine



/s/ John M. Tarrh                                    Director                                    March 27, 1997
-------------------------------
John M. Tarrh

</TABLE>


                                      -25-





                                 QC OPTICS, INC.

                          INDEX TO FINANCIAL STATEMENTS


<TABLE>
<CAPTION>

                                                                                                 PAGE

<S>                                                                                                <C>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS                                                         F-2

BALANCE SHEETS AS OF DECEMBER 31, 1995 AND 1996                                                  F-3

STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1996                          F-4

STATEMENTS OF STOCKHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31,
1995 AND 1996                                                                                    F-5

STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1996                          F-6

NOTES TO FINANCIAL STATEMENTS                                                                    F-7
</TABLE>




                                      F-1










                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS



To QC Optics, Inc.:

We have audited the accompanying  balance sheets of QC Optics,  Inc. (a Delaware
corporation)  as of December 31, 1995 and 1996,  and the related  statements  of
operations, stockholders' equity and cash flows for the years ended December 31,
1995  and  1996.  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 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 financial  statements  referred to above present fairly, in
all material respects,  the financial position of QC Optics, Inc. as of December
31, 1995 and 1996,  and the results of its  operations and its cash flows for of
the years  ended  December  31,  1995 and 1996,  in  conformity  with  generally
accepted accounting principles.




                                              ARTHUR ANDERSEN LLP




Boston, Massachusetts
February 12, 1997



                                      F-2





                                 QC OPTICS, INC.

                   BALANCE SHEETS--DECEMBER 31, 1995 AND 1996

                                     ASSETS

<TABLE>
<CAPTION>
                                                                                          1995                1996
<S>                                                                                        <C>                 <C>
CURRENT ASSETS:
   Cash and cash equivalents                                                           $ 1,430,964    $     5,022,772
   Accounts receivable, less allowance of $75,000 and $100,000 at                        3,236,706          1,884,694
     December 31, 1995 and 1996, respectively
   Inventory                                                                             2,893,122          3,383,060
   Prepaid expenses                                                                         18,003             69,597
                                                                                     -------------    ---------------

         Total current assets                                                            7,578,795         10,360,123
                                                                                     -------------    ---------------

PROPERTY AND EQUIPMENT, AT COST:
   Furniture and fixtures                                                                   99,686            148,391
   Machinery and equipment                                                                 296,193            299,822
   Leasehold improvements                                                                   57,085             57,085
   Motor vehicles                                                                           23,458             23,458
                                                                                     -------------    ---------------
                                                                                           476,422            528,756

   Less--Accumulated depreciation                                                           358,243            408,902
                                                                                      -------------    ---------------

         Property and equipment, net                                                       118,179            119,854
                                                                                     -------------    ---------------

DEFERRED TAX ASSETS                                                                              -            208,000
                                                                                     -------------    ---------------

OTHER ASSETS                                                                                24,936             24,943
                                                                                     -------------    ---------------

         Total assets                                                                  $ 7,721,910    $    10,712,920
                                                                                       ===========    ===============

                                         LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
   Loan payable to affiliate                                                           $ 4,250,000    $             -
   Accounts payable                                                                        487,774            683,847
   Accrued payroll and related expenses                                                    332,829            427,897
   Accrued commissions                                                                      95,150            538,061
   Accrued income taxes                                                                     71,000            469,200
   Accrued expenses                                                                        245,402            414,059
   Customer deposits                                                                        35,917            157,562
                                                                                     -------------    ---------------

         Total current liabilities                                                       5,518,072          2,690,626
                                                                                     -------------    ---------------

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
   Preferred stock, $.01 par value-
     Authorized--1,000,000 shares
     Issued and outstanding--no shares at December 31, 1995 and 1996                              -                  -
   Common stock, $.01 par value-
     Authorized--10,000,000 shares
     Issued and outstanding--2,150,000 shares at December 31, 1995 and 3,242,500 at
       December 31, 1996                                                                    21,500             32,425
   Additional paid-in capital                                                            3,888,500          9,902,886
   Accumulated deficit                                                                  (1,706,162)        (1,913,017)
                                                                                     -------------    ---------------

         Total stockholders' equity                                                      2,203,838          8,022,294
                                                                                     -------------    ---------------

         Total liabilities and stockholders' equity                                    $ 7,721,910    $    10,712,920
                                                                                       ===========    ===============


    The accompanying notes are an integral part of these financial statements.

</TABLE>


                                      F-3



                                 QC OPTICS, INC.

                            STATEMENTS OF OPERATIONS
                 FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1996


<TABLE>
<CAPTION>

                                                                                          1995              1996

<S>                                                                                  <C>              <C>
NET SALES                                                                            $    10,373,464  $    13,577,104

COST OF SALES                                                                              4,798,902        5,900,121
                                                                                     ---------------  ---------------

         Gross profit                                                                      5,574,562        7,676,983
                                                                                     ---------------  ---------------

OPERATING EXPENSES:
   Selling, general and administrative expenses                                            2,843,266        3,824,002
   Engineering expenses                                                                    1,586,951        1,404,850
   Management buyout charge (Note 9)                                                               -        1,701,000
                                                                                     ---------------  ---------------

         Total operating expenses                                                          4,430,217        6,929,852
                                                                                     ---------------  ---------------

         Operating income                                                                  1,144,345          747,131

INTEREST INCOME                                                                              112,982           56,170

INTEREST EXPENSE                                                                            (269,327)        (163,956)
                                                                                     ---------------  ---------------

         Income before provision for income taxes                                            988,000          639,345

PROVISION FOR INCOME TAXES                                                                    79,781          846,200
                                                                                     ---------------  ---------------

         Net income (loss)                                                           $       908,219  $      (206,855)
                                                                                     ===============  ===============

NET INCOME (LOSS) PER COMMON AND COMMON EQUIVALENT SHARES                                $    .42         $   (.09)
                                                                                         ========         ========

WEIGHTED AVERAGE COMMON AND COMMON EQUIVALENT SHARES OUTSTANDING
                                                                                           2,173,174        2,346,325
                                                                                         ===========      ===========

   The accompanying notes are an integral part of these financial statements.


</TABLE>

                                      F-4


                                 QC OPTICS, INC.


                       STATEMENTS OF STOCKHOLDERS' EQUITY
                 FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1996

<TABLE>
<CAPTION>


                                                         PREFERRED STOCK                COMMON STOCK            ADDITIONAL
                                                      NUMBER          PAR           NUMBER          PAR          PAID-IN
                                                     OF SHARES       VALUE         OF SHARES       VALUE         CAPITAL

<S>                                               <C>            <C>          <C>           <C>             <C>
BALANCE, DECEMBER 31, 1994                                 -    $        -         2,150,000    $   21,500    $    3,888,500

  Net income                                               -             -                 -             -                 -
                                                  ----------     ---------      ------------   -----------    --------------

BALANCE, DECEMBER 31, 1995                                 -             -         2,150,000        21,500         3,888,500

  Net loss                                                 -             -                 -             -                 -

  Issuance of shares--management buyout
   (Note 9)                                                -             -                 -             -         1,701,000

  Issuance of initial public offering shares
   (Note 10)                                               -             -         1,092,500        10,925         5,063,386

  Recapitalization (Note 9)                                -             -                 -             -          (750,000)
                                                  ----------     ---------      ------------   -----------    --------------

BALANCE, DECEMBER 31, 1996                                 -        $    -         3,242,500    $   32,425    $    9,902,886
                                                  ==========        ======      ============    ==========    ==============

</TABLE>


<TABLE>
<CAPTION>
                                                                              TOTAL
                                                          ACCUMULATED     STOCKHOLDERS'
                                                            DEFICIT           EQUITY

<S>                                                    <C>              <C>
BALANCE, DECEMBER 31, 1994                               $   (2,614,381)  $   1,295,619

  Net income                                                    908,219         908,219
                                                        ---------------  --------------

BALANCE, DECEMBER 31, 1995                                   (1,706,162)      2,203,838

  Net loss                                                     (206,855)       (206,855)

  Issuance of shares--management buyout
   (Note 9)                                                           -       1,701,000

  Issuance of initial public offering shares
   (Note 10)                                                          -       5,074,311

  Recapitalization (Note 9)                                           -        (750,000)
                                                        ---------------  --------------

BALANCE, DECEMBER 31, 1996                               $   (1,913,017)  $   8,022,294
                                                         ==============   =============


   The accompanying notes are an integral part of these financial statements.

</TABLE>


                                      F-5





                                 QC OPTICS, INC.

                            STATEMENTS OF CASH FLOWS
                 FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1996

<TABLE>
<CAPTION>
                                                                                          1995              1996

<S>                                                                                <C>                <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net income (loss)                                                                 $       908,219  $      (206,855)
                                                                                     ---------------  ---------------
   Adjustments to reconcile net income (loss) to net cash provided by (used in)
   operating activities-
     Management buyout charge (Note 9)                                                             -        1,701,000
     Depreciation and amortization                                                            55,504           50,659
     Loss on sale of property                                                                  3,226                -
     Increase in deferred taxes, net                                                               -         (208,000)
     Changes in operating assets and liabilities-
       Accounts receivable                                                                (1,334,675)       1,352,012
       Inventory                                                                            (608,677)        (489,938)
       Prepaid expenses and other assets                                                        (710)         (51,601)
       Accounts payable                                                                      (89,864)         196,073
       Accrued expenses                                                                      182,028        1,104,836
       Customer deposits                                                                    (217,632)         121,645
                                                                                     ---------------  ---------------

              Total adjustments                                                           (2,010,800)       3,776,686
                                                                                     ---------------  ---------------

              Net cash provided by (used in) operating activities                         (1,102,581)       3,569,831
                                                                                     ---------------  ---------------

CASH FLOWS FROM INVESTING ACTIVITIES:
   Purchase of property and equipment                                                        (43,691)         (52,334)
   Proceeds on sale of property and equipment                                                  6,438                -
                                                                                     ---------------  ---------------

              Net cash used in investing activities                                          (37,253)         (52,334)
                                                                                     ---------------  ---------------

CASH FLOWS FROM FINANCING ACTIVITIES:
   Proceeds from initial public offering, net (Note 10)                                            -        5,074,311
   Borrowings from revolving line of credit                                                        -        4,886,611
   Payments on revolving line of credit                                                            -       (8,136,611)
   Recapitalization and management buyout-
     Capital contribution from Kobe Steel                                                          -        4,250,000
     Payment on loan payable to affiliate                                                          -       (4,250,000)
     Borrowings from revolving line of credit                                                      -        3,250,000
     Redemption of common stock from Kobe Steel                                                    -       (5,000,000)
                                                                                     ---------------  ---------------

              Net cash provided by financing activities                                            -           74,311
                                                                                     ---------------  ---------------

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                                      (1,139,834)       3,591,808

CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                             2,570,798        1,430,964
                                                                                     ---------------  ---------------

CASH AND CASH EQUIVALENTS, END OF PERIOD                                             $     1,430,964  $     5,022,772
                                                                                     ===============  ===============

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
   Cash paid for-
     Interest                                                                        $       288,886  $       170,822
                                                                                     ===============  ===============
     Income taxes                                                                    $        35,021  $       656,000
                                                                                     ===============  ===============

SUPPLEMENTAL SCHEDULE OF NONCASH FINANCING AND INVESTING ACTIVITIES:
   Issuance of shares (Note 9)                                                       $             -  $     1,701,000
                                                                                     ===============  ===============


   The accompanying notes are an integral part of these financial statements.

</TABLE>


                                      F-6




                                 QC OPTICS, INC.

                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996




(1)    DESCRIPTION OF BUSINESS

       QC  Optics,  Inc.  (the  Company)  was  formed  in 1986 and  manufactures
       high-end   critical   surface   inspection   systems  for  sales  to  the
       semiconductor,   flat  panel   display  and  computer   hard  disk  drive
       industries.

(2)    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

       Revenue Recognition

       Revenues  from  product  sales are  recognized  at the time  equipment is
       shipped.  Revenues from service and maintenance agreements are recognized
       ratably over the period covered by the agreement. Service and maintenance
       revenues were less than 10% of total net sales in each of the years ended
       December 31, 1995 and 1996.

       The Company derives most of its annual  revenues from a relatively  small
       number of sales of products, systems and upgrades. As a result, any delay
       in the  recognition  of revenue for a single  product,  system or upgrade
       would  have a  material  adverse  effect  on  the  Company's  results  of
       operations  for a  given  accounting  period.  In  addition,  some of the
       Company's  net  sales  have  been  realized  near  the end of a  quarter.
       Accordingly,  a delay in a shipment  scheduled to occur near the end of a
       particular  quarter  could  materially  adversely  affect  the  Company's
       results of operations for that quarter.

       The  Company's  operating  results  have  historically  been  subject  to
       significant quarterly and annual fluctuations.  The Company believes that
       its  operating  results will  continue to  fluctuate  on a quarterly  and
       annual basis due to a variety of factors,  including the  cyclicality  of
       the industries served by the Company's inspection  products;  patterns of
       capital spending by customers;  the timing of significant  orders;  order
       cancellations and shipment reschedulings; unanticipated delays in design,
       engineering  or  production,   or  in  customer   acceptance  of  product
       shipments;  changes in pricing by the Company or its competitors; the mix
       of systems sold; and the  availability  of components and  subassemblies,
       among others.

       Warranty Costs

       The Company  accrues  warranty costs in the period the related revenue is
       recognized.  Warranty  costs  were  not  material  for the  years  ending
       December 31, 1995 and 1996.

       Research and Development Costs

       Research and development  costs are expensed as incurred and are included
       in  engineering  expenses in the  accompanying  statements of operations.
       Research and development  costs for the years ended December 31, 1995 and
       1996 amounted to $925,938 and $577,327, respectively.



                                      F-7





                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(2)    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

       Cash and Cash Equivalents

       Cash and cash equivalents include highly liquid investments with original
       maturities of three months or less.

       Inventory

       Inventory is stated at the lower of cost (first-in,  first-out) or market
       and consist of the following:

                                                         DECEMBER 31,
                                                    1995              1996

        Raw materials and finished parts       $    1,390,362   $    1,149,376
        Work-in-process                             1,502,760        2,233,684
                                               --------------   --------------

                                               $    2,893,122   $    3,383,060
                                               ==============   ==============

       Work-in-process  and finished parts inventories  include material,  labor
       and manufacturing overhead.

       Property and Equipment

       Property and equipment are stated at cost.  Maintenance  and repair items
       are  charged to expense  when  incurred;  renewals  and  betterments  are
       capitalized. When property and equipment are retired or sold, their costs
       and related accumulated  depreciation are removed from the accounts,  and
       any resulting gain or loss is included in income.

       The Company provides for depreciation  using the straight-line  method to
       amortize  the cost of plant and  equipment  over their  estimated  useful
       lives, which generally are as follows:

                                     ESTIMATED
     ASSET CLASSIFICATION           USEFUL LIFE

Furniture and fixtures                 3-8 Years
Machinery and equipment                3-8 Years
Leasehold improvements                8-10 Years
Motor vehicles                         3-5 Years



                                      F-8





                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)



(2)    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

       Income Taxes

       The Company utilizes the liability method of accounting for income taxes,
       as set forth in Statement of Financial  Accounting  Standards  (SFAS) No.
       109,  Accounting for Income Taxes.  SFAS No. 109 requires the recognition
       of deferred  tax assets and  liabilities  for the  temporary  differences
       between the tax and financial  statement  carrying  amounts of assets and
       liabilities.  Deferred  tax assets are  recognized  net of any  valuation
       allowance.  The Company and Kobe Steel USA Holdings,  Inc.  (Kobe Steel),
       99.5%  owner of the  Company  prior to March 29, 1996 (see Note 9), had a
       tax-allocation agreement.  Prior to March 29, 1996, the Company's results
       of operations  were included in the  consolidated  federal return of Kobe
       Steel.  The  agreement  calls for the  provision  (benefit)  and payments
       (refunds)  to be made as if the  Company  were to file  its own  separate
       company tax returns.

       Concentration of Credit Risk

       Financial   instruments  that   potentially   expose  the  Company  to  a
       concentration  of credit risk include  accounts  receivable  and cash and
       cash equivalents.

       The Company sells its products primarily to large corporate  customers in
       the  semiconductor,  flat panel  displays  and  computer  hard disk drive
       industries and performs ongoing  evaluations of its customers'  financial
       conditions.  Concentration of credit risk with respect to sales and trade
       receivables is primarily due to the following:


<TABLE>
<CAPTION>

                                 NET SALES FOR THE               ACCOUNTS RECEIVABLE AS OF
                              YEARS ENDED DECEMBER 31,                 DECEMBER 31,
                                1995              1996             1995             1996

<S>                      <C>               <C>               <C>                <C>
        Company A        $     3,295,000   $    1,871,000    $    1,945,000     $    501,000
        Company B              1,641,000          170,000           113,000          126,000
        Company C              1,309,000           48,000           277,000           12,000
        Company D              1,209,000        1,309,000           446,000          325,000
        Company E                512,000          564,000           344,000            5,000
        Company F                      -        1,596,000                 -                -
        Company G                      -          358,000                 -          250,000
        Company H                      -          227,000                 -          227,000
        Company I                      -          441,000                 -          288,000

</TABLE>


                                      F-9


                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(2)    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

       Concentration of Credit Risk (Continued)

       The  Company  maintains  cash  balances  and  short-term  investments  in
       commercial paper at financial institutions in Massachusetts.  Accounts at
       these   institutions  are  insured  by  the  Federal  Deposit   Insurance
       Corporation  up to  $100,000.  Uninsured  cash and cash  equivalent  bank
       balances amounted to approximately  $1,501,000 and $4,976,000 at December
       31, 1995 and 1996, respectively.

       Export net sales, denominated in U.S. dollars, were as follows:

                                        FOR THE YEARS ENDED
                                       1995               1996

               Asia/Pacific     $    1,819,717    $    4,883,940
               Europe                   37,462           110,567
               Other                         -            19,529

       Fair Value of Financial Instruments

       The Company's  financial  instruments  consist primarily of cash and cash
       equivalents,  accounts  receivable  and  accounts  payable.  The carrying
       amounts of the Company's cash and cash equivalents,  accounts  receivable
       and  accounts  payable  approximate  fair  value due to their  short-term
       nature.

       Impairment of Long-Lived Assets

       Beginning on January 1, 1996,  the Company was required to adopt SFAS No.
       121,   Accounting  for  the  Impairment  of  Long-Lived  Assets  and  for
       Long-Lived  Assets To Be Disposed Of. SFAS No. 121  addresses  accounting
       and  reporting  requirements  for  long-term  assets  based on their fair
       market values. Adoption of SFAS No. 121 did not have a material impact on
       the Company's financial condition and results of operations.

       Use of Estimates

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


                                      F-10



                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)



(2)    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

       Net Income (Loss) per Common Share

       Net income  (loss) per common share has been  determined  by dividing net
       income  (loss) by the  weighted  average of common and common  equivalent
       shares  outstanding  during the period. As required by the Securities and
       Exchange  Commission  Staff  Accounting  Bulletin  No. 83, all common and
       common  equivalent  shares and other  potentially  dilutive  instruments,
       including stock options,  issued during the twelve-month  period prior to
       the public offering date have been included in the calculation as if they
       were  outstanding  for all  periods  prior to the  date of the  Company's
       initial public offering.

       In June 1996,  the Company's  Board of Directors  approved an approximate
       1.72-for-1  common  stock  split.  Accordingly,  all  share and per share
       amounts of common stock for all periods presented have been retroactively
       adjusted to reflect the split. In addition,  the  stockholders  increased
       the authorized  capital stock of the Company to 1,000,000  shares of $.01
       par value preferred stock and 10,000,000  shares of $.01 par value common
       stock.

(3)    INCOME TAXES

       The components of the income tax provision (benefit) are as follows:

                                    FOR THE YEARS ENDED
                                        DECEMBER 31,
                                    1995             1996

          Current-
             Federal           $         -     $      836,429
             State                  79,781            217,771
                             -------------    ---------------

                                    79,781          1,054,200
                             -------------    ---------------
          Deferred-
             Federal                     -           (208,000)
             State                       -                  -
                             -------------    ---------------

                                         -           (208,000)
                             -------------    ---------------

                               $    79,781     $      846,200
                               ===========     ==============


                                      F-11



                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)




(3)    INCOME TAXES (Continued)

       The Company's  effective tax rate differs from the federal statutory rate
of 34% in 1995 and 1996 due to the following:

<TABLE>
<CAPTION>
                                                                1995             1996

<S>                                                        <C>               <C>
Computed tax provision at statutory rate                   $      335,920    $      217,377
Increase (reductions) resulting from-
    Management buyout charge                                            -           578,340
    State taxes                                                    79,781           217,771
    Items not deductible for income tax purposes                   19,956            40,712
    Change in valuation reserve                                  (355,876)         (208,000)
                                                          ---------------   ---------------

                                                           $       79,781    $      846,200
                                                           ==============    ==============
</TABLE>

       Under the Tax Reform  Act of 1986,  the  amount of the  benefit  from net
       operating  losses may be  impaired  or limited in certain  circumstances,
       including a  cumulative  stock  ownership  change of more than 50% over a
       three-year  period,  which  occurred in  connection  with the  management
       buyout. As a result of the management  buyout,  the Company is limited to
       approximately $180,000 of loss utilization per year.

       Deferred  income  taxes at December  31, 1995 and 1996  consisted  of the
       following:
<TABLE>
<CAPTION>

                                                                  1995              1996
<S>                                                       <C>               <C>
        DEFERRED TAX ASSETS:
           Inventories                                       $      240,000   $      460,000
           Other reserves                                           154,000          196,000
           Net operating loss carryforwards                         870,000          811,000
                                                             --------------   --------------

                 Total gross deferred tax assets                  1,264,000        1,467,000

                 Less--Valuation allowance                         1,258,000        1,250,000
                                                              -------------------------------

                 Net deferred tax assets                              6,000          217,000
                                                             --------------   --------------

        DEFERRED TAX LIABILITIES:
           Depreciation                                               6,000            9,000
                                                             --------------   --------------

                  Total deferred tax liabilities                      6,000            9,000
                                                             --------------   --------------

                  Net deferred tax asset                     $            -   $      208,000
                                                             ==============   ==============
</TABLE>



                                      F-12




                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(3)    INCOME TAXES (Continued)

       Given the  limitations on the  utilization of the Company's net operating
       losses as a result of the management  buyout and uncertainty  surrounding
       the ability of the Company to generate  future income in order to realize
       deferred  tax  assets in the  future,  primarily  due to such  factors as
       dependence  on a  few  customers,  rapid  technological  change  and  the
       cyclical nature of the  semiconductor,  computer hard disk and flat panel
       display  industries,  management has concluded that  realizability of the
       deferred  tax  assets  as of  December  31,  1996 is  uncertain  and has,
       therefore,  provided a valuation  allowance  against  such  deferred  tax
       assets.

       For tax reporting  purposes,  the Company has a U.S. net  operating  loss
       carryforward of  approximately  $2,028,000,  subject to Internal  Revenue
       Service review and approval and certain IRS  limitations on net operating
       loss  utilization.  Utilization of the net operating loss carryforward is
       contingent on the Company's ability to generate income in the future. The
       net  operating  loss  carryforwards  will expire from 2000 to 2008 if not
       utilized.

(4)    COMMITMENTS AND CONTINGENCIES

       The  Company  leases its  operating  facilities  under two  noncancelable
       operating  lease  agreements,  the largest of which expires in June 1997.
       Rent expense for the years ended  December 31, 1995 and 1996  amounted to
       approximately  $264,000  and  $245,000,   respectively.   Future  minimum
       commitments under all noncancelable operating leases at December 31, 1996
       are as follows:

                     1997               $      114,000
                     1998                       17,000
                     1999                        1,000
                                       ---------------

                                        $      132,000
                                       ===============


(5)    EMPLOYEE BENEFIT PLAN

       The Company  participated  in the 401(k)  retirement  savings  plan of an
       affiliated   company  (the  Plan)  through  July  1996.  The  Plan  is  a
       defined-contribution  plan that covers substantially all of the Company's
       employees.  Participants may make voluntary contributions of 1% to 15% of
       their annual compensation. The Company makes matching contributions up to
       a certain maximum  percentage,  and a future Company  contribution can be
       made at the Company's  discretion.  During July 1996,  the Company ceased
       participation in the Plan and began a new 401(k) retirement  savings plan
       sponsored by the Company with equivalent provisions to the former Plan.


                                      F-13




                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(5)    EMPLOYEE BENEFIT PLAN (Continued)

       The Company charged to expense approximately $92,000 and $113,000 related
       to  contributions  to the Plan for the years ended  December 31, 1995 and
       1996, respectively. Included in accrued expenses is approximately $63,000
       and $79,000 for Company matching and  discretionary  contributions to the
       Plan for the years ended December 31, 1995 and 1996, respectively.

(6)    RELATED PARTY TRANSACTIONS

       In 1987,  the Company  entered  into an agreement  with Kobe Steel,  Ltd.
       (Kobe Japan), an affiliated Japanese company, which granted Kobe Japan an
       exclusive license to distribute and manufacture the Company's products in
       Japan and other Pacific Rim  countries.  During 1994,  this agreement was
       terminated by mutual consent.

       The Company's sales to Kobe Japan amounted to  approximately  $611,000 or
       6% of net sales for the year ended December 31, 1995.

       Kobe Japan, through its various  subsidiaries,  has provided loans to the
       Company by means of a revolving  credit  arrangement (the Affiliate Loan)
       over the years.  On March 29,  1996,  the  Company  paid the  outstanding
       $4,250,000 of principal on the Affiliate  Loan (see Note 9).  Interest on
       the loans during the year ended  December  31, 1995 and 1996  amounted to
       approximately $269,000 and $53,000, respectively.

(7)    STOCK OPTION PLANS

       In June 1996, the Board of Directors  approved the 1996 Stock Option Plan
       (the 1996  Plan)  under  which  employees,  including  Directors  who are
       employees,  may be granted  options to purchase  shares of the  Company's
       common stock at not less than fair market value on the date of grant,  as
       determined  by the Board of  Directors.  The 1996 Plan  also  allows  for
       nonqualified  stock options to be issued to employees and nonemployees at
       prices that are less than fair market  value.  Options  granted under the
       1996 Plan are  exercisable  for up to a 10-year  period  from the date of
       grant.  The  Company  has  reserved  360,000  shares of common  stock for
       issuance under the 1996 Plan. In June 1996, the Company  granted  options
       under  the 1996  Plan for the  purchase  of  124,492  shares at $5.10 per
       share, the estimated fair market value on the date of grant, which become
       exercisable  over three years,  beginning on June 20, 1997, one year from
       the date of  grant.  Additionally,  in June  1996,  the  Company  granted
       options to purchase  107,500  shares of common  stock at $6.30 per share,
       which  became  exercisable  on October 24, 1996,  the date the  Company's
       initial  public  offering  became  effective  (see Note 10). To date, all
       options  have been issued with an exercise  price at or above fair market
       value.


                                      F-14



                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)




(7)    STOCK OPTION PLANS (Continued)

       In June 1996,  the Board of Directors  approved a Director  Formula Stock
       Option Plan (the Formula Plan) in which options will be granted beginning
       on June 18, 1996, and every four years thereafter,  immediately following
       the Company's annual meeting of stockholders, options shall be granted to
       eligible  nonemployee  directors.  Each director will receive  options to
       purchase 15,000 shares of common stock, which vest and are exercisable in
       16 equal  installments over a period of four years beginning on the first
       day of the fiscal quarter  immediately  following the grant.  The options
       may be  exercised  at the fair market value of the shares of common stock
       on the date of grant.  The Company has reserved  100,000 shares of common
       stock for  issuance  under the Formula  Plan.  In June 1996,  the Company
       granted  options under the Formula Plan for the purchase of 30,000 shares
       at $5.10 per share, the estimated fair market value on the date of grant,
       which become exercisable as previously discussed.

       Pro Forma Stock-Based Compensation Expense

       In October 1995, the Financial Accounting Standards Board issued SFAS No.
       123,  Accounting  for  Stock-Based  Compensation,   which  sets  forth  a
       fair-value-based method of recognizing stock-based  compensation expense.
       As  permitted  by SFAS No.  123,  the  Company has elected to continue to
       apply APB No. 25 to account for its stock-based  compensation  plans. Had
       compensation  cost  for  awards  granted  in  1996  under  the  Company's
       stock-based compensation plans been determined based on the fair value at
       the grant dates  consistent with the method set forth under SFAS No. 123,
       the effect on the  Company's  net loss and net loss per common and common
       equivalent shares would have been as follows:

                                                              1996

        Net loss-
           As reported                                  $      (206,855)
           Pro forma                                           (258,795)

        Net loss per common and common
        equivalent shares-
           As reported                                  $          (.09)
           Pro forma                                               (.11)

       Compensation  expense for options  granted is reflected  over the vesting
period;  therefore,  future  compensation  expense may be greater as  additional
options are granted.


                                      F-15




                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(7)    STOCK OPTION PLANS (Continued)

       Pro Forma Stock-Based Compensation Expense (Continued)

       The fair value of each option grant was estimated on the grant date using
the  Black-Scholes  option  pricing  model with the  following  weighted-average
assumptions:

                                                            1996

        Volatility                                             50%
        Risk-free interest rate                              7.03%
        Expected life of options                           5 Years

       The  Black-Scholes   option  pricing  model  was  developed  for  use  in
       estimating  the fair  value of  traded  options,  which  have no  vesting
       restrictions  and are fully  transferable.  In addition,  option  pricing
       models  require  the input of highly  subjective  assumptions,  including
       expected stock price volatility. Because the Company's stock options have
       characteristics  significantly different from those of traded options and
       because changes in the subjective input assumptions can materially affect
       the fair value estimate,  in management's opinion, the existing models do
       not  necessarily  provide a reliable  single measure of the fair value of
       its employee stock options.


                                      F-16




                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(7)    STOCK OPTION PLANS (Continued)

       Stock Option Activity

       A summary of the Company's stock option activity is as follows:
<TABLE>
<CAPTION>

                                                                1996 PLAN                        FORMULA PLAN
                                                                         WEIGHTED                           WEIGHTED
                                                    NUMBER OF SHARES      AVERAGE      NUMBER OF            AVERAGE
                                                                      EXERCISE PRICE    SHARES           EXERCISE PRICE

<S>                                                <C>              <C>              <C>                 <C>
        Options outstanding, beginning of year                 -         $       -               -          $       -
          Granted                                        231,992              5.66          30,000               5.10
          Exercised                                            -                 -               -                  -
          Forfeited                                       (8,928)             5.10               -                  -
                                                    ------------      ------------     -----------       ------------

        Options outstanding, end of year                 223,064         $    5.68          30,000          $    5.10
                                                    ============         =========     ===========          =========

        Options exercisable                              107,500         $    6.30           3,750          $    5.10
                                                    ============         =========     ===========          =========

        Options available for grant                      136,936                            70,000
                                                    ============                       ===========

        Weighted-average fair value of options
          (whose exercise price equals market
          value) during the year                                         $    2.68                          $    2.68
                                                                         =========                          =========

        Weighted-average fair value of options
          (whose exercise price exceeds market
          value) during the year                                         $    3.24
                                                                         =========


 A summary of the status of the Company's stock options at December 31, 1996 is as follows:

</TABLE>

<TABLE>
<CAPTION>

                                                       OPTIONS OUTSTANDING AND EXERCISABLE
                                                EXERCISE                         REMAINING CONTRACTUAL
                                                 PRICE             NUMBER                 LIFE

<S>                                      <C>                <C>                  <C>
        1996 Plan                              $   6.30           107,500              9.5 Years

        Formula Plan                           $   5.10             3,750              9.5 Years


</TABLE>


                                      F-17




                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(8)    REVOLVING LINE OF CREDIT

       On March 29, 1996,  the Company  entered into a revolving  line-of-credit
       agreement (the Revolving Line of Credit) with State Street Bank and Trust
       Company,  which matures on June 30, 1998 and bears  interest per annum at
       the  bank's  prime  rate  plus .5%  (8.75% at  December  31,  1996).  The
       Revolving  Line of Credit  has a fee on the daily  unused  portion of the
       facility at the rate of 0.25% per annum. The aggregate amount outstanding
       under  the  Revolving  Line of  Credit  is  limited  to the sum of 80% of
       qualifying  receivables  and 10% of qualifying  inventory  (not to exceed
       $350,000).   At  December  31,  1996,  the  Company  had  no  outstanding
       borrowings  under the Revolving  Line of Credit.  The  Revolving  Line of
       Credit is secured by all assets of the  Company.  The  Revolving  Line of
       Credit  provides  for the  maintenance  of  certain  specified  financial
       ratios,  including,  but not limited to, a quick ratio,  minimum  capital
       funds,  maximum  debt/capital  funds ratio and a minimum  earnings  test,
       among other negative and  affirmative  covenants,  and restricts  certain
       transactions  without the bank's prior written consent. The Company is in
       compliance  with all debt covenants under the Revolving Line of Credit as
       of December 31, 1996.

(9)    MANAGEMENT BUYOUT

       During October 1995, the Company,  certain management  employees (through
       an unaffiliated  corporation,  Sally, Inc.) and Kobe Steel entered into a
       series of related  agreements  designed to restructure the capital of the
       Company and allow  management  to acquire up to 89.6% of the common stock
       of the Company for $7,200,000 (collectively referred to as the Management
       Buyout Agreement).  The Management Buyout Agreement allowed management to
       acquire  62.2% of the  Company  by March  31,  1996 for  $5,000,000  (the
       Original   Repurchase)  and  an  additional  27.4%  of  the  Company  for
       $2,200,000  within two years  from the date of  closing  of the  Original
       Repurchase  or upon  the  closing  of an  underwritten  public  offering,
       pursuant  to  a  registration  statement  declared  effective  under  the
       Securities  Act of 1933, as amended.  The Original  Repurchase  under the
       Management  Buyout   Agreement,   as  amended  on  March  29,  1996,  was
       accomplished on March 29, 1996 through the redemption of shares from Kobe
       Steel for $5,000,000 (the Redemption Price) and the tax-free merger under
       Section 368  (a)(1)(A) of the Internal  Revenue Code of 1986, as amended,
       of Sally,  Inc.  and the Company.  Of the  $5,000,000  Redemption  Price,
       $3,250,000 was financed  pursuant to the terms of a $4,000,000  revolving
       credit  agreement  (see Note 8),  $1,000,000  was provided from available
       cash of the Company and $750,000  was  financed  pursuant to a promissory
       note  bearing  interest  at the rate of 8% per annum from the  Company to
       Kobe Steel (the Kobe Term Note).  The  transaction has been accounted for
       as a  recapitalization  and  management  buyout.  The Company  recorded a
       $1,701,000 nonrecurring,  noncash charge in the accompanying statement of
       operations  for  the  year  ending  December  31,  1996  associated  with
       management's  acquisition of 62.2% of the Company,  with a  corresponding
       increase in additional paid-in capital on the accompanying balance sheet.
       This charge is not deductible for income tax purposes. The Kobe Term Note
       was subsequently repaid in October 1996.


                                      F-18





                                 QC OPTICS, INC.


                          NOTES TO FINANCIAL STATEMENTS
                                DECEMBER 31, 1996

                                   (Continued)


(9)    MANAGEMENT BUYOUT (Continued)

       Simultaneous  with the Original  Repurchase and as required per the terms
       of  the  Management   Buyout   Agreement,   Kobe  Steel  made  a  capital
       contribution in cash of $4,250,000 on March 29, 1996 to the Company.  The
       Company used the proceeds  received to pay off the outstanding  principal
       due on the Affiliate  Loan in the same amount.  In addition,  as required
       per the terms of the  Management  Buyout  Agreement,  the Company filed a
       restated certificate of incorporation  providing for the recapitalization
       of the Company  such that all shares of Class A voting  common  stock and
       Class B nonvoting common stock became one class of voting common stock.

       On October 27, 1995, the Company and certain management  employees of the
       Company  entered  into a voting  trust  agreement  known as the QC Optics
       Voting Trust (the Voting Trust), of which the President of the Company is
       trustee.  The Voting  Trust  continues  in force for a period of 21 years
       from October 27, 1995, unless terminated earlier as a result of a merger,
       dissolution, sale of all or substantially all of the Company's assets, or
       liquidation.

(10)   INITIAL PUBLIC OFFERING

       On October 24, 1996,  the Company's  registration  statement on Form SB-2
       was declared effective by the Securities and Exchange Commission, and the
       Company completed its initial public offering of 950,000 shares of common
       stock at $6.00 per  share and  950,000  redeemable  warrants  at $.10 per
       warrant.  Further, on November 15, 1996, the underwriters exercised their
       over-allotment  option  granted  under  the  terms  of  the  underwriting
       agreement and purchased an additional  142,500  shares of common stock at
       $6.00 per share and  142,500  warrants at $.10 per  warrant.  The Company
       received total net proceeds of $5,074,311  after deducting  underwriters'
       discounts, commissions and other offering costs.


                                      F-19


                                 EXHIBIT INDEX

Exhibit
  No.                      Title
  ---                      -----

  11              Earnings Per Share Computations.

  27              Financial Data Schedule.