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

**Form 10-K**

(MARK ONE)

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

**FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999**

**or**

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

**For the transition period from ________to _________**

**Commission file number: 0-25688**

**SDL, INC.**
(Exact name of Registrant as specified in its charter)

**Delaware
            
            
            
            
            
77-0331449**

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

**80 Rose Orchard Way, San Jose, CA  95134-1365**(Address of principal executive offices, including zip code)

**(408) 943-9411**(Registrant's telephone number, including area code)

Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
     
                     [X] Yes
     
[   ] No

``

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

State the aggregate market value of the voting and non-voting common equity held
by non-affiliates of the Registrant, based on the closing sale price of the
Common Stock on March 23, 2000, as reported by Nasdaq was $15,992,993,654.
Shares of Common Stock held by each officer and director and by each person who
owns 5 percent or more of the outstanding Common Stock have been excluded from
this computation in that such persons may be deemed to be affiliates. This
determination of affiliate status is not a conclusive determination for other
purposes.

As of March 23, 2000 the registrant had outstanding 72,748,983 shares of
Common Stock.

**DOCUMENTS INCORPORATED BY REFERENCE**

Part III of this Report on Form 10-K incorporates by reference from Registrant's
Proxy Statement for its 2000 Annual Meeting of Stockholders.







**SDL, INC.
                                   FORM 10-K**
                     FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999

**TABLE OF CONTENTS**

**PART I**

Item 1.   Business

Item 2.   Properties

Item 3.   Legal Proceedings

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

**PART II**

Item 5.   Market for Registrant's Common Stock and Related Stockholder Matters

Item 6.   Selected Financial Data

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

> Results of OperationsLiquidity and Capital ResourcesImpact of Year 2000

Item 7A.      Quantitative and Qualitative Disclosure About Market Risks

Item 8.   Financial Statements and Supplementary Data

Item 9.   Changes in and Disagreements with Accountants on Accounting and
          Financial Disclosure

**PART III**

Item 10.  Directors and Executive  Officers of the  Registrant

Item 11.  Executive  Compensation

Item 12.  Security Ownership of Certain Beneficial Owners and Management

Item 13.  Certain  Relationships and Related  Transactions

**PART IV**

Item 14.  Exhibits, Financial Statement Schedules and Reports on Form 8-K

**Signatures**

---

**SDL, INC.**

PART I

**ITEM 1.  BUSINESS**

Introduction

SDL, Inc. is a world leader in providing solutions for optical
communications and related markets.  Our products power the transmission
of data, voice, and Internet information over fiber optic networks to
meet the needs of telecommunication, dense wavelength division
multiplexing (DWDM), cable television and metro communications
applications.  Our solutions enable customers to meet the need for
increasing bandwidth by expanding their fiber optic communication
networks more quickly and efficiently than by using conventional
electronic and optical technologies.

SDL, Inc. was established in 1983 as a joint venture between Xerox and
Spectra-Physics to develop and commercialize semiconductor laser
technology.  SDL management led a group to buy-out the joint venture
partners in 1992, and the Company went public in 1995. We have always
been technology-driven, leading the deployment of semiconductor laser
technology into a wide variety of applications including fiber optic and
satellite communications and printing and material processing products.
We have a technical staff, including over sixty PhDs, representing one
of the largest investments in core technology in the photonics industry.
From the original products introduced in 1984, we have expanded our
product offering to over 150 standard products.  By 1995, we recognized
that our core technical strengths of high reliability and high power
were particularly well suited to the growing market opportunity in fiber
optic communications.  Since the acquisition of Seastar Optics in 1995,
our strategy has increasingly focused on providing solutions for optical
communications. The demand for DWDM solutions accelerated significantly
in 1999 due to the technology's unique ability to expand network
bandwidth and provide much faster transmission of data, voice and video
signals.  With the qualification of the Company's new wafer fabrication
facility in the first half of 1998 and expansion of yields and assembly
and test capacity in 1999, the Company was able to successfully ramp
capacity and achieve significant revenue growth.  Revenue from fiber
optic communications products increased by 179 percent in 1999 compared
to 1998.  SDL products were also able to capture a strong position in
the undersea fiber optic communications market, where Company revenue
increased from less than 1 percent of total revenue in 1998 to 30
percent of total revenue in the fourth quarter of 1999.

**Company Strategy**

Our objective is to be the customer's first choice for optoelectronics
products by providing high levels of customer satisfaction, in terms of
technology, value, quality, delivery and service.  Our strategy focuses
on four key elements:  technology leadership, expanding manufacturing
capacity, customer partnerships and strategic acquisitions.

**Technology Leadership:**

We believe that our strong competitive position is attributable in large
part to our technology leadership.  With over 200 patents owned and over
170 patents pending, and with over sixty PhDs on staff, our proprietary
photonics technology base has expanded rapidly in the past several
years.  We plan to leverage our strong technology base in high power,
high reliability and wavelength stabilization to maximize market share
in the pump laser area, for terrestrial, undersea and cable/metro
applications, and to continue to expand into other DWDM product areas.
We believe that there is an excellent match between our core technical
strengths and the growing requirements for advanced component and
integrated module products to enable higher channel count and higher
data rate DWDM systems.  Through both internal product development and
acquisition of advanced products developed by others, we intend to
provide a wide variety of technically differentiated solutions to the
optical communications needs of our broad customer base.

**Expand Manufacturing Capacity:**

Communication equipment manufacturers are increasingly demanding higher
volumes of components with shorter delivery lead times, higher quality
and reliability, and lower prices.  Accordingly, in 1999 we completed
programs to significantly expand manufacturing capacity, improve yields
and reduce unit costs in key product areas.  Bellcore-qualified wafer
fabrication capacity is in place in San Jose, California to meet
expected product demand.  We doubled our semiconductor laser diode
assembly and test floor space at our Santa Clara, California facility.
Additionally, we constructed a new 50,000 square foot pump module
packaging facility in Victoria, British Columbia, Canada, which,
together with efficiency improvements is expected to triple our pump
module packaging capacity. With acquisitions and expansions in the
United Kingdom and domestically, modulator and fiber capacity have also
increased.  Due largely to improved yields in manufacturing, we were
able to continue reducing costs of certain volume products in 1999 and
this contributed to the overall increase in gross margins by 8.4
percentage points from 1998.



During the coming year, in order to continue to enhance our
manufacturing capacity we are focusing on improving our manufacturing
efficiencies to reduce the cost and increase the quantity and quality of
our products.  These planned improvement efforts involve both
enhancement and optimization of existing manufacturing techniques and
development of new, more automated manufacturing solutions and the
establishment of new manufacturing facilities.

**Customer Partnerships:**

Partner with Leaders. Our growth is a function of our contracts and
partnerships with industry leaders.  We strive to be the market share
leader in each of the product segments in which we compete, and seek
partnerships with the largest customers in each segment.  Typically,
such major system business leaders are attracted by our technical
leadership at the component and subsystem level.  During 1999, we
entered into an exclusive four-year agreement to supply Alcatel with 980
nanometer (nm) laser chips and fiber Bragg gratings for use in that
company's pump modules for undersea applications.  We also signed a
three-year contract to supply similar chips to another major undersea
pump module supplier.  We signed agreements to supply Corning and JDS
Uniphase, two of the world's largest manufacturers of erbium-doped fiber
amplifiers used in DWDM network applications, with 980 nm pump modules.
We strengthened our relationship with Nortel, one of the leaders in the
DWDM arena. We are continuing to expand our worldwide sales and
marketing organization with a goal of providing superior solutions and
service, to customers, such as Agilent, Corning, Fujitsu, Lucent,
Mistsubishi, Pirelli - Cisco , Siemens, and Tyco.

Increase International Revenue. We believe that significant growth in
the communications equipment market will occur outside the United States
as a result of deregulation and the need of many foreign countries to
substantially expand or enhance their communications services. Our
strategy is to expand our international presence by increasing our
international sales and marketing resources, leveraging our existing
customer relationships, developing additional international distribution
channels and seeking strategic alliances and acquisitions. Revenues from
customers outside of the United States accounted for approximately 41
percent, 27 percent and 25 percent, of our total revenue in fiscal 1999,
1998 and 1997, respectively.

**Strategic Acquisitions:**

Because of the dynamic nature of the communications equipment industry,
we have sought and intend to continue to seek acquisitions and alliances
that will: (i) add key technologies that can leverage across our
businesses, (ii) broaden our product offerings, and (iii) expand market
opportunities.  We have a successful track record of integrating and
leveraging acquisitions, as we did with Seastar Optics.  More recently,
our acquisition in early 1999 of Polariod's Specialty Fiber Business, a
manufacturer of rare earth doped fiber for amplifiers and fiber lasers was
the original source of our Raman amplifier patents.  Our acquisition of IOC
International plc., a United Kingdom-based provider of very high speed
(2.5 and 10 gigabits per second) modulators and other lithium niobate
products designed for use in long-haul optic transmission systems,
enabled us to expand beyond providing fiber optic amplifier products
into the broader arena of transmitter products as well.

In March 2000, we acquired Queensgate Instruments, Ltd. and expect to
close the acquisition of Veritech Microwave, Inc. in April 2000.

Queensgate is a leading supplier of embedded optical network monitoring
products. Their products are used to monitor the power and performance
of DWDM systems. The core of their optical technology is a precision
tunable filter based on nanopositioning technology.  Queensgate's
customers are the major telecommunications systems manufacturers
worldwide where their products are integrated into high channel count
fiber optic transmission systems.

Veritech is a leading supplier of high-speed transmission and receiver
electronics for fiber optic networks. Their products interface between
the electronic multiplexer and the optical components and consist of
external modulator drivers and digitizers on the transmit side and
limiting amplifiers, digitizers, low pass filters, clock recovery
electronics and optoelectronic receivers on the receive end of the DWDM
system. Historically, most of Veritech's business has been in supplying
the undersea market with electronics that accommodate OC-48, OC-96 and
OC-192 rates. As the data rates and transmission spans increase for
terrestrial systems, the demand for Veritech's products has gone beyond
that of traditional undersea equipment manufacturers to include some of
the long haul terrestrial equipment suppliers.

**Products and Markets**

We derive revenue from two principal markets: fiber optic communications
and industrial laser products.

**Fiber Optic Communications**

The advent of the Internet as a communications medium has dramatically
increased business and consumer demand for high speed, reliable access
to data and, as a result, has placed considerable stress on existing
communication networks.   Dense wavelength division multiplexing (DWDM)
technology is providing the solution to meet the network bandwidth
demand of the Internet.  DWDM dramatically increases the amount of
information that can be transported across fiber optic networks.  It is
very costly to install fiber cabling for long distance communication.
Once cable is installed, therefore, there is a great incentive to
utilize it to the greatest extent possible, rather than having to
install additional cable.  Rather than transmitting a single light
signal over a fiber (as was historically done), with DWDM several
different light signals each at a different wavelength, are combined
(multiplexed) and transmitted over the fiber simultaneously.  At the
output end of the fiber cable, the various signals can be separated
(demultiplexed) because each signal is at a slightly different
wavelength.  With technological improvements, the number of different
wavelengths (or channels) that can be transmitted simultaneously
continues to increase, from 16 to 40 to 80 to over 200.

The optical amplifier was a major advance in photonics. With the ability
to amplify a photon without taking it to an electrical level for
amplification, the optical amplifier significantly reduced the cost of
fiber networks. An Erbium doped fiber amplifier (EDFA) is essentially a
special piece of optical fiber that is seeded or "doped" with the rare
earth element Erbium.  Erbium is used because when excited, it amplifies
light in the low loss 1550nm range, which is the broad spectral range
used in fiber optical signal transmission.  EDFAs exhibit superior noise
figure performance when pumped by 980 nm lasers. This means longer span
distances can be designed between repeater amplifiers meaning fewer
amplifiers are required for a given link distance, resulting in lower
network cost.

Erbium-Doped Fiber Amplifiers.  We supply Erbium-Doped Fiber Amplifiers
(EDFA) that are designed for OEM integration into high performance
analog or digital communications systems. Our EDFAs offer exceptional
output power and noise performance. A single connector access to all
leads of the internal optoelectronics allows users to integrate the EDFA
with their own control, management and alarm electronics.

Pump Lasers. We supply high power 980nm single mode pump lasers to
provide power to optical amplifiers used in terrestrial and undersea
fiber optic systems.  As new high power DWDM optical amplifier
technology has developed, we have introduced pump lasers to meet the
needs of this emerging technology. Our lasers can deliver the high
optical power levels required for DWDM amplifiers.  We also manufacture
multi-mode pump lasers which are utilized in very high power fiber
amplifiers.

Pump Modules. We supply 980nm pump modules that lead the industry in
output power and use fiber Bragg grating technology to stabilize the pump
module. Grating stabilization delivers superior wavelength stability and
enables precise wavelength specification. Both of these performance
characteristics are increasingly important as channel density increases
in EDFAs for DWDM networks.

Raman amplifiers. During 1999, we introduced a Raman amplifier pump
module that won the Laser Focus World Optical Product of the Year Award.
Raman amplifiers differ from conventional EDFAs in that they use
installed optical fiber as the amplificiation medium rather than erbium-
doped fiber.   A continuous-wave (CW) laser signal is launched from the
receiver end of the fiber toward the source, turning the full
transmission length into an amplifier.  These amplifiers, designed to
work in both the 1310nm and 1550nm windows, offer higher power potential
and lower crosstalk potential than EDFAs.  Making ever more powerful
EDFAs may not be a viable long-term option, since the increased power
induces four-wave mixing (FWM), a source of crosstalk.  Raman amplifiers
complement EDFAs, since they can be used from the receiver end and do
not create a power boost that would create unacceptable FWM. These Raman
modules can also be used to remotely pump optical amplifiers located as
far as 100 km offshore in undersea networks or directly connect two
nearby points without the need for any undersea EDFA, resulting in
lower deployment and operating costs, high system reliability and
increased network bandwidth.

External Modulators and Drivers. With our acquisition of IOC
International in May 1999, we expanded into the transmission sector of
DWDM systems with lithium niobate external modulators and drivers.   The
use of external modulation enables very high channel count systems and
very long propagation distances.  The worldwide demand for lithium
niobate modulators and drivers is expected to grow significantly as
transmission systems continue to move to 10 GB/s and higher data rates.

**Industrial Products**

The tremendous growth of the fiber optic market has tended to overshadow
the non-communications applications where our semiconductor lasers,
fiber lasers and laser-based systems have historically enjoyed success.
It is important to note, however, that revenues from these segments of
our business grew at 9 percent in 1999.  These markets include such
applications as printing and materials processing.

Printing. Thermal printing currently represents our largest non-
communications product line.  Our laser diodes and fiber lasers serve as
heat sources or light sources in high quality printing systems.  Our
fiber-coupled laser diodes enable customers to write high-resolution
color images directly from computer files onto a printing press plate or
film, thus eliminating a number of processing steps and resulting in
significant cost savings for commercial printers.  We also offer a line
of fiber lasers for thermal printing applications.  These are optical
fibers that are pumped with high reliability semiconductor lasers.
Printing customers are attracted to our fiber lasers because of their
high optical power and good beam quality. In the printing marketplace,
digital proofing systems that develop full-color glossy prints without
traditional film negatives employ our laser solutions.  And by
incorporating our innovative high-power laser solutions with industry
advances in media and plate design, printers can go directly from the
computer image plates, resulting in significant savings in time and
money. In 1999, we announced the acquisition of the Polaroid's fiber
laser business, which included the assignment of more than three dozen
patents and the ongoing operation of existing fiber manufacturing
facilities.  The advanced technology and strong base of intellectual
property we acquired complements our core competencies.

Material Processing.  Lasers are used in a variety of material
processing applications, including welding, cutting, soldering, heat
treating and marking.  We provide high power semiconductor lasers and
fiber laser-based systems for certain of these applications.  In the
market for laser marking systems, our laser pumped products are
generally smaller, more reliable and more efficient than competing lamp-
pumped systems.  Other laser pump products provide optical power to
manufacturers of solid state lasers for material processing.

**Sales and Marketing**

We market our products through product line specific direct sales forces
headquartered in San Jose, California.  We also maintain technical
support in the United Kingdom, Canada and Japan.  In addition, we sell
our products through distributors in Europe, Japan and Southeast Asia
and a worldwide network of representatives.

We seek partnerships with the largest customers in each segment in which
we compete.  We believe that the key elements in attracting and
maintaining such partners are superior technology, value, quality,
delivery and service, which we strive to provide.  Selected customers
for communications products include Agilent, Alcatel, Antec, Corning,
Fujitsu, JDS Uniphase, Lucent, Mitsubishi, Nortel, Pirelli
- Cisco, Siemens, and Tyco.  Selected customers for industrial laser
products include Kodak, Polaroid, Phillips Semiconductor, and  Seagate.

In support of our selling effort, we conduct marketing programs intended
to position and promote our products within the communication industry.
Marketing personnel coordinate our participation in trade shows and
design and implement our advertising efforts. In addition, the marketing
group gathers and maintains market research and tracks industry trends
and developments in order to anticipate customer needs for new products
and develop pricing strategies.

**Research and Development**

During 1999, 1998 and 1997, we incurred $19.0 million, $12.7 million and
$11.3 million respectively, of research and development expense.  In
addition, we recorded cost of sales on customer-funded research
contracts of $3.8 million, $7.5 million and $11.6 million in 1999, 1998
and 1997, respectively.

We are currently developing new and enhanced communication pump lasers
and modules, lithium niobate modulators and drivers, Raman amplifiers,
fiber lasers and fiber amplifiers and expanding our manufacturing
capability for these products. Once the design of a product is complete,
our engineering efforts shift to enhance both the performance of that
product and our ability to manufacture it at higher volumes and at lower
cost. For the communications marketplace, we continue to increase the
power output of our pump lasers and modules. In addition, higher
performance modulators and amplifiers are under development.  For
example, we recently announced a new generation of pump modules for use
in EDFAs. These new high power pump modules will be used in DWDM fiber
optic networks to satisfy the projected increase in demand for higher
channel count and longer transmission distance. The new pump module will
use our new 6540 pump laser chip that has operated at over 500 mW of
optical power, and an advanced fiber coupled package with reduced
dimensions that has improved thermal performance. The combination of new
chip technology and new packaging techniques allows the introduction of
module power levels to 300 mW.

We have successfully introduced what we believe to be leading edge
products and we have received numerous new product awards.  There can be
no assurance that we will succeed in identifying new product
opportunities, or in developing and bringing to market any such new
products, or that we will be able to respond effectively to
technological advances by others.  There also can be no assurance that
our markets will accept our new products.  Moreover, the end markets for
the our new standard products are subject to rapid technological change
and there can be no assurance that as such markets change, our product
offerings will remain current.

**Manufacturing**

We manufacture our products at our facilities in San Jose and Santa
Clara, California, Victoria, British Columbia, Canada, Cambridge,
Massachusetts, and Witham, United Kingdom.  Our manufacturing operation
is vertically integrated and has capabilities in computer-aided chip and
package design, wafer fabrication, wafer processing, device packaging,
hybrid microelectronic packaging, printed circuit board testing, and
final assembly and testing.  Many of the functions within our
manufacturing operation are computer monitored or controlled, in order
to enhance reliability and yield. Customer expectations for innovative
product solutions, high volume capacity, high quality and on-time
delivery require flexible manufacturing processes.  Therefore, we employ
flexible manufacturing techniques, allowing us to switch readily,
reliably and efficiently from one product to another.  We believe that
our flexible manufacturing capability along with our proprietary
processes and designs differentiate us from our competitors.

Our semiconductor laser and fiber optic products are fabricated using
many proprietary processes and customized manufacturing equipment.
Therefore, we perform almost all steps in the manufacturing of the
semiconductor lasers.  Any interruption in manufacturing resulting from
shortages of parts or equipment, earthquake, fire, equipment failures,
yield fluctuations or otherwise could have a material adverse effect on
our business and results of operations.  In particular, a significant
portion of our production relies or occurs on equipment for which we do
not have a backup.  See "Factors Affecting Earnings and Stock Price --
Manufacturing Risks" and "Factors Affecting Earnings and Stock Price --
Need to Manage Growth".  Outside contractors and suppliers are used to
provide raw materials, packages and standard components, and to assemble
printed circuit boards.  We depend on a single or a limited number of
suppliers.  We generally purchase these single or limited source
products through standard purchase orders or one-year agreements.  We
seek to maintain a sufficient safety stock to overcome shipping delays
or supply interruptions by our suppliers.  We also endeavor to maintain
ongoing communications with our suppliers to guard against interruptions
in supply and, to date, generally (although not always) been able to
obtain sufficient supplies in a timely manner.  Operating results could
be adversely affected by a stoppage or delay of supply, substitution of
more expensive or less reliable alternate parts, receipt of defective
parts or contaminated materials, an increase in pricing of such parts,
or our inability to obtain reduced pricing from our suppliers in
response to competitive pressures.  See "Factors Affecting Earnings and
Stock Price -- Dependence on Single Source and Other Third Party
Suppliers."

We intend to increase our level of manufacturing automation and expand
into additional facilities as required.  In 1999, we expanded our
assembly and test floor space in Santa Clara, California from
approximately 50,000 square feet to approximately 100,000 square feet.
In addition, we completed construction of a new 50,000 square foot pump
module packaging  facility near Victoria, British Columbia, Canada.

**Environmental Regulations**

We are subject to a variety of federal, state and local laws and
regulations concerning the storage, use, discharge and disposal of
toxic, volatile, or otherwise hazardous or regulated chemicals or
materials used in our manufacturing processes.  Further, we are subject
to other safety, labeling and training regulations as required by local,
state and federal law.  We have established an environmental and safety
compliance program to meet the objective of applicable federal, state
and local laws.  Our compliance program is administered by our
environmental and safety department that includes monitoring, measuring
and reporting compliance, establishing safety programs and training our
personnel in environmental and safety matters.  There can be no
assurance that changes in or failure to meet regulations or laws will
not have an adverse economic effect on us.  Further, such regulations
could restrict our ability to expand our operations.  Any failure by us
to obtain required permits or operate within regulations for, control
the use of, or adequately restrict the discharge of hazardous or
regulated substances or materials under present or future regulations
could subject us to substantial liability, require costly changes in to
our manufacturing processes or facilities or cause our operations to be
suspended.

**Backlog**

As of December 31, 1999, our backlog was approximately $66.6 million.
Orders constituting our backlog are subject to delivery rescheduling,
price renegotiations and cancellation at the option of the buyer;
therefore, our backlog at any  particular date is not necessarily
indicative of actual revenue for any succeeding period.  A significant
portion of our business, in line with that of much of the communications
industry, is characterized by short lead-time orders and quick
delivery schedules.

**Competition**

Our various markets are highly competitive. We face current or potential
competition from four primary sources:

> direct competitors,potential entrants,suppliers of potential new technologies, andsuppliers of existing alternative technologies.

We offer a range of components, products and systems and have numerous
competitors worldwide in various segments of our markets. As the markets
for our products grow, new competitors have recently emerged and are
likely to continue to do so in the future. We also sell products and
services to companies with which we presently compete or in the future
may compete and certain of our customers have been or could be acquired
by, or enter into strategic relations with our competitors. In most of
our product lines, our competitors are working to develop new
technologies, or improvements and modifications to existing
technologies, which will obsolete present products. Many of our
competitors have significantly greater financial, technical,
manufacturing, marketing, sales and other resources than we do.

We have numerous competitors worldwide in each of our operating
segments.  In communications, competitors include JDS Uniphase, Corning,
Ortel, Lucent, Nortel, and Furukawa.  In industrial lasers, competitors
include Spectra-Physics, Coherent, Sony and Sanyo.  We also sell our
products to current competitors and companies with the capability of
becoming competitors.  Mergers or joint ventures of our customers with
our competitors have occurred in the past and could occur in the future
causing the loss of revenues.  If the markets for our products continue
to grow, new competitors are likely to emerge and present competitors
may increase their market share.  See "Factors Affecting Earnings and
Stock Price - Competition."

**Intellectual Property**

We have been a leader in the development of new technologies in the
optoelectronics field and as such, have actively sought to patent our
inventions.  We frequently review our inventions and attempt to
determine which inventions will provide substantial differentiation, or
represent substantial advancement, between our products and those of our
competitors.  In certain cases, we may also choose to keep an invention
or a process as a trade secret.  Trade secrets are routinely employed in
our manufacturing processes.  We have entered into non-disclosure
agreements to protect our proprietary technology with our employees and
consultants, and in some instances, with our suppliers and customers.

To date, we own over 200 patents, domestic and foreign, on
devices, processes, packages and systems.   Over 170 additional patent
applications are pending.  We also have a royalty-free license to
approximately 95 Xerox U.S. patents.  We also have five royalty-bearing
licenses under which we license additional patents from third parties.
Management believes that the breadth of its issued and pending patents
and licenses will allow us to compete effectively in our present and
future businesses.  However, because of rapid technological developments
in the communications, electronics, optics and semiconductor industries
and the broad and rapidly developing patent coverage, the patent
position of any manufacturer, including us, is subject to uncertainties
and may involve complex legal and factual issues.  Consequently, we may
encounter patents from other parties which may require licensing or may
keep us from designing, manufacturing or selling certain products, or
using certain processes and could materially adversely effect our
results of operations (See "Factors Affecting Earnings and Stock Price,
Risk of Patent Infringement Claims).

Due to collaborative efforts with others, some of our pending patent
applications or issued patents are filed under undivided joint
ownership. Some of our patents have been licensed to others including
our competitors. Approximately 25 of our issued patents and pending
applications were developed under Federal government funding and contain
a provision for a non-exclusive, royalty-free license for Federal
government use.

We participate in research or product development consortia in which we
have agreed to grant other partners or consortia members, along with the
Federal government, a non-exclusive license to technologies developed
with consortia funding.  Some of these cross-license grants are royalty-
free while others provide for market rate license fees.  In certain
situations, these consortia require us to invest our own research and
development funds to match Federal government funds.

**Employees**

As of December 31, 1999, we employed 998 people, including 683 in
manufacturing, 191 in engineering, research and development, 50 in sales
and marketing, and 74 in general and administrative capacities.  We also
employ, from time to time, a number of temporary employees and
consultants on a contract basis.  As of December 31, 1999, we employed
113 such people.  None of our employees are represented by a labor
union.  We have not experienced any work stoppages and consider our
relations with our employees to be good.

**FACTORS AFFECTING EARNINGS AND STOCK PRICE**

**Manufacturing Risks**

The manufacture of semiconductor lasers and related products and systems
that we sell is highly complex and precise, requiring production in a
highly controlled and clean environment. Changes in the manufacturing
processes or the inadvertent use of defective or contaminated materials
by us or our suppliers have in the past and could in the future
significantly impair our ability to achieve acceptable manufacturing
yields and product reliability. If we do not achieve acceptable yields
or product reliability, our operating results and customer relationships
will be adversely affected. We rely almost exclusively on our own
production capability in:

> computer-aided chip and package design,wafer fabrication,wafer processing,device packaging,hybrid microelectronic packaging,printed circuit board testing, andfinal assembly and testing of products.

Because we manufacture, package and test these components, products and
systems at our own facility, and because these components, products and
systems are not readily available from other sources, our business and
results of operations will be significantly impaired if our
manufacturing is interrupted by any of the following:

> shortages of parts or equipment,equipment failures,poor yields,fire or natural disaster,labor or equipment shortages, orotherwise.

A significant portion of our production relies or occurs on equipment
for which we do not have a backup. To alleviate, at least in part, this
situation, we remodeled our front-end wafer fabrication facility and our
packaging and test facility. We cannot assure you that we will not
experience further start-up costs and yield problems in fully utilizing
our increased wafer capacity targeted by these remodeling efforts. In
addition, we are deploying a new manufacturing execution software system
designed to further automate and streamline our manufacturing processes,
and there may be unforeseen deficiencies in this system which could
adversely affect our manufacturing processes. In the event of any
disruption in production by one of these machines or systems, our
business and results of operations could be materially adversely
affected. Furthermore, we have a limited number of employees dedicated
to the operation and maintenance of our equipment, loss of whom could
affect our ability to effectively operate and service our equipment. We
experienced lower than expected production yields on some of our
products, including certain key product lines over the past 3 years.
This reduction in yields:

> adversely affected gross margins,delayed component, product and system shipments, andto a certain extent, delayed new orders booked.

Although more recently, our yields have improved, we cannot assure you
that yields will continue to improve or not decline in the future, nor
that in the future our manufacturing yields will be acceptable to ship
products on time. To the extent that we experience lower than expected
manufacturing yields or experience any shipment delays, gross margins
will likely be significantly reduced and we could lose customers and
experience reduced or delayed customer orders and cancellation of
existing backlog. We presently are ramping production of some of our
product lines by:

> changing our shift schedules and equipment coverage,hiring and training new personnel,acquiring new equipment, andexpanding our facilities and capabilities.

Difficulties in starting production to meet expected demand and
schedules have occurred in the past and may occur in the future
including the following:

> quality problems could arise, yields could fall, and gross margins
> could be reduced during such a ramp, orcost reductions in manufacturing are required to avoid a drop in
> gross margins for certain products sold to customers receiving volume
> pricing.

Cost reductions may not occur rapidly enough to avoid a decrease in
gross margins on products sold under volume pricing terms. In that
event, our business and results of operations would be materially
adversely affected.

**Dependence on Single Source and Other Third Party Suppliers**

We depend on a single or limited number of outside contractors and
suppliers for raw materials, packages and standard components, and to
assemble printed circuit boards. We generally purchase these products
through standard purchase orders or one-year supply agreements. We do
not have long-term guaranteed supply agreements with these suppliers. We
seek to maintain a sufficient safety stock to overcome short-term
shipping delays or supply interruptions by our suppliers. We also
endeavor to maintain ongoing communications with our suppliers to guard
against interruptions in supply. To date, we have generally been able to
obtain sufficient supplies in a timely manner. However, our business and
results of operations have in the past been and could be impaired by:

> a stoppage or delay of supply,substitution of more expensive or less reliable parts,receipt of defective parts or contaminated materials, andan increase in the price of such supplies or our inability to obtain
> reduced pricing from our suppliers in response to competitive
> pressures.

**Competition**

Our various markets are highly competitive. We face current or potential
competition from four primary sources:

> direct competitors,potential entrants,suppliers of potential new technologies, andsuppliers of existing alternative technologies.

We offer a range of components, products and systems and have numerous
competitors worldwide in various segments of our markets. As the markets
for our products grow, new competitors have recently emerged and are
likely to continue to do so in the future. We also sell products and
services to companies with which we presently compete or in the future
may compete and certain of our customers have been or could be acquired
by, or enter into strategic relations with our competitors. In most of
our product lines, our competitors are working to develop new
technologies, or improvements and modifications to existing
technologies, which will obsolete present products. Many of our
competitors have significantly greater financial, technical,
manufacturing, marketing, sales and other resources than we do.

In addition, many of these competitors may be able to respond more
quickly to new or emerging technologies, evolving industry trends and
changes in customer requirements and to devote greater resources to the
development, promotion and sale of their products than us. We cannot
assure you that:

> our current or potential competitors have not already or will not in
> the future develop or acquire products or technologies comparable or
> superior to those that we developed,combine or merge with each other or our customers to form significant
> competitors,expand production capacity to more quickly meet customer supply
> requirements, oradapt more quickly than we do to new technologies, evolving industry
> trends and changing customer requirements.

Increased competition has resulted and could, in the future, result in
price reductions, reduced margins or loss of market share, any of which
could materially and adversely affect our business and results of
operations. We cannot assure you that we will be able to compete
successfully against current and future competitors or that competitive
pressures we face will not have a material adverse effect on our
business and results of operations. We expect that both direct and
indirect competition will increase in the future. Additional competition
could have an adverse material effect on our results of operations
through price reductions and loss of market share.

**Customer Order Fluctuations**

Our product revenue is subject to fluctuations in customer orders.
Occasionally, some of our customers have ordered more products than they
need in a given period, thereby building up inventory and delaying
placement of subsequent orders until such inventory has been reduced. We
may also build inventory in anticipation of receiving new orders in the
future. Also, customers have occasionally placed large orders that they
have subsequently cancelled. In addition, due to the fact that our sales
of 980 nm pump lasers products comprise a significant portion of our
total revenues, our revenues are particularly susceptible to customer
order fluctuations for these products. These fluctuations, cancellations
and the failure to receive new orders can have adverse effects on our
business and results of operations. We may also have incurred
significant inventory or other expenses in preparing to fill such orders
prior to their cancellation. Virtually our entire backlog is subject to
cancellation. Cancellation of significant portions of our backlog, or
delays in scheduled delivery dates, could have a material adverse effect
on our business and results of operations.

**Risks from Customer Concentration**

A relatively limited number of OEM customers accounted for a
substantial portion of revenue from communication products in fiscal
1999.  During fiscal 1999, three communication product customers and
their affiliates accounted for 15 percent, 11 percent and 11 percent of
revenues, respectively.  Revenue to any single customer is also subject
to significant variability from quarter to quarter.  Such fluctuations
could have a material adverse effect on our business, operating results
or financial condition.  We expect that revenue to a limited number of
customers will continue to account for a high percentage of the net
sales for the foreseeable future.  Moreover, there can be no assurance
that current customers will continue to place orders or that we will be
able to obtain new orders from new communication customers.

**Dependence on Emerging Applications and New Products**

Our current products serve many applications in the communications and
industrial laser markets. In many cases, our products are substantially
completed, but the customer's product incorporating our products is not
yet completed or the applications or markets for the customer's product
are new or emerging. In addition, some of our customers are currently in
the process of developing new products that are in various stages of
development, testing and qualification, and sometimes are in emerging
applications or new markets.

We believe that rapid customer acceptance and qualification of our new
products is key to our financial results.  Substantial portions of our
products address markets that are not now, and may never become,
substantial commercial markets. We have experienced, and are expected to
continue to experience, delays in qualification, fluctuation in customer
orders and competitive, technological and pricing constraints that may
preclude development of markets for our products and our customers'
products.

Our customers and we are often required to test and qualify pump lasers
and modules, modulators, amplifiers, and transmitters among other new
products for potential volume applications. In the communications market
qualification is an especially costly, time consuming and difficult
process.  We cannot assure you that:

> we or our customers will continue their existing product development
> efforts, or if continued that such efforts will be successful,markets will develop for any of our technology or that pricing will
> enable such markets to develop,other technology or products will not supersede our products or our
> customer's products, orwe or our customers will be able to qualify products for certain
> customers or markets.

We may also be unable to develop or qualify new products on a timely
schedule. Moreover, even if we are successful in the timely development
of new products that are accepted in the market, we often experience
lower margins on these products. The lower margins are due to lower
yields and other factors, and thus we may be unable to manufacture and
sell new products at an acceptable cost so as to achieve acceptable
gross margins.

**Need To Manage Growth**

We have on occasion been unable to manufacture products in quantities
sufficient to meet demand of our existing customer base and new
customers. The expansion in the scope of our operations has placed a
considerable strain on our management, financial, manufacturing and
other resources and has required us to implement and improve a variety
of operating, financial and other systems, procedures and controls. In
addition, we have recently deployed a new enterprise resource planning
system and manufacturing execution system.

We cannot assure you that any existing or new systems, procedures or
controls will adequately support our operations or that our systems,
procedures and controls will be designed, implemented or improved in a
cost-effective and timely manner. Any failure to implement, improve and
expand such systems, procedures and controls in an efficient manner at a
pace consistent with our business could have a material adverse effect
on our business and results of operations.

Our future success is dependent, in part, on our ability to attract,
assimilate and retain additional employees, including certain key
personnel. We will continue to need a substantial number of additional
personnel, including those with specialized skills, to commercialize our
products and expand all areas of our business in order to continue to
grow. Competition for such personnel is intense, and we cannot assure
you that we will be able to attract, assimilate or retain additional
highly qualified personnel.

**Risks of Acquisitions**

Our strategy involves the acquisition and integration of additional
companies' products, technologies and personnel. We have limited
experience in acquiring outside businesses.   We regularly review
acquisition and investment prospects that would complement our existing
product offerings, augment our market coverage, secure supplies of
critical materials or enhance our technological capabilities.
Acquisitions or investments could result in a number of financial
consequences, including:

> potentially dilutive issuances of equity securities;large one-time write-offs;reduced cash balances and related interest income;higher fixed expenses which require a higher level of revenues to
> maintain gross margins;the effect of local laws and taxes in foreign subsidiaries;the incurrence of debt and contingent liabilities; andamortization expenses related to goodwill and other intangible
> assets.

Furthermore, acquisitions involve numerous operational risks, including:

> difficulties in the integration of operations, personnel,
> technologies, products and the information systems of the acquired
> companies;diversion of management's attention from other business concerns;diversion of resources from our existing businesses, products or
> technologies;risks of entering geographic and business markets in which we have no
> or limited prior experience; andpotential loss of key employees of acquired organizations.

If we are unable to successfully address any of these risks, our business
could be materially and adversely affected.

**Dependence on Key Employees**

Our future performance also depends in significant part upon the
continued service of our key technical and senior management personnel.
The loss of the services of one or more of our officers or other key
employees could significantly impair our business, operating results and
financial condition. While many of our current employees have many years
of service with us, there can be no assurance that we will be able to
retain our existing personnel. If we are unable to retain and hire
additional personnel, our business and results of operations could be
materially and adversely affected.

**Risk of Patent Infringement Claims**

The semiconductor, optoelectronics, communications, information and
laser industries are characterized by frequent litigation regarding
patent and other intellectual property rights. From time to time we have
received and may receive in the future, notice of claims of infringement
of other parties' proprietary rights and licensing offers to
commercialize third party patent rights. In addition, we cannot assure
you that:

> additional infringement claims (or claims for indemnification
> resulting from infringement claims) will not be asserted against us,
> orthat existing claims or any other assertions will not result in an
> injunction against the sale of infringing products or otherwise
> significantly impair our business and results of operations.

In 1985, we first received correspondence from Rockwell International
Corporation alleging that we used a fabrication process that infringes
Rockwell's patent rights. Those allegations led to two related lawsuits,
one of which is still pending. The first lawsuit was filed in August
1993, when Rockwell sued the Federal government in the United States
Court of Federal Claims, alleging infringement of these patent rights
with respect to the contracts the Federal government has had with at
least 15 companies, including us (Rockwell International Corporation v.
The United States of America, No. 93-542C (US Ct. Fed. Cl.)). We were
not originally named as a party to this lawsuit. However, the Federal
government asserted that, if the Federal government were held liable to
Rockwell for infringement of Rockwell's patent in connection with some
of its contracts with us, then we might be liable to indemnify the
Federal government for a portion of its liability on certain contracts.

In June 1995, we filed a motion to intervene in the lawsuit filed in
August 1993 after Rockwell filed a second lawsuit against us in May,
1995 in California. That motion was granted on August 17, 1995. Upon
intervening in the Federal government's lawsuit, we filed an answer to
Rockwell's complaint in that lawsuit, alleging that:

> Rockwell's patent was invalid and that we did not infringe Rockwell's
> patent,Rockwell's patent was unenforceable under the doctrine of inequitable
> conduct, andRockwell's action is barred by the doctrines of laches and equitable
> estoppel.

After extensive discovery, we moved, as did the Federal government, for
summary judgment on the ground that Rockwell's patent was invalid. By
order dated February 5, 1997, the Court of Federal Claims granted those
motions and entered judgment in our favor and in favor of the Federal
government. However, Rockwell appealed the Court of Federal Claims'
decision, and on June 15, 1998, the United States Court of Appeals for
the Federal Circuit issued an opinion vacating the judgment that had
been entered in our favor and in favor of the Federal government. The US
Circuit Court for the Federal Circuit held that the Court of Federal
Claims had erred in finding that there were no genuine disputes of
material fact concerning the obviousness of the Rockwell patent, and
that the resolution of these disputes could not be decided by summary
judgment but instead requires a trial. The Federal Circuit:

> remanded the case back to the Court of Federal Claims for further
> proceedings, andaffirmed the Court of Federal Claims' denial of our motion for
> summary judgment of invalidity based on anticipation, as well as the
> Court of Federal Claims' claim construction.

Subsequent to the Federal Circuit's action, the United States agreed to
pay Rockwell $16.9 million in settlement of the first lawsuit and the
first lawsuit was dismissed by the Court of Federal Claims in January
1999. We did not participate in the settlement. Since the settlement,
the Federal government has not again raised the issue of our potential
indemnity obligation to them.

As noted above, we made our decision to intervene in the first lawsuit
filed after Rockwell filed the second lawsuit against us in the Northern
District of California, alleging that we had infringed the Rockwell
patent in connection with our manufacture and sale of products to
customers other than the United States. Again, the complaint alleges
that we used a fabrication process that infringes the Rockwell patent
(Rockwell International Corporation v. SDL, Inc., No. C95-01729 MHP (US
Dist.Ct., N.D. Cal.)). By its complaint, Rockwell sought a judgment
against us to:

> permanently enjoin us from using the fabrication processes allegedly
> covered by Rockwell's patent,require us to pay damages in an unspecified amount for our alleged
> past infringement of the patent, treble damages and attorneys' fees.

The complaint was served on us on June 30, 1995, and we filed an answer
to the complaint on August 18, 1995, alleging that:

> Rockwell's patent is invalid,we did not infringe Rockwell's patent,Rockwell's patent is unenforceable under the doctrine of inequitable
> conduct, andRockwell's action is barred by the doctrines of laches and equitable
> estoppel.

On August 11, 1995, prior to filing our answer, we filed a motion to
stay this action based upon the pendency of the lawsuit brought by the
Federal government. The District Court granted our motion to stay on
September 15, 1995. Subsequent to the settlement of the first lawsuit,
the District Court lifted this stay, and discovery recommenced in the
second lawsuit.

Although the Court of Federal Claims ruled in our favor in the first
lawsuit, finding the patent invalid on motion for summary judgment, the
Court of Appeals for the Federal Circuit reversed the summary judgment
ruling, meaning that the issue of validity needs to go to trial. Such a
trial would now occur before a jury in California. The California judge
also required that a settlement conference between Rockwell and SDL be
scheduled in order to see if the parties can resolve the dispute before
trial, which conference occurred in the first part of June 1999.  The
parties were unable to successfully resolve the lawsuit.

Later in June 1999, Rockwell filed a motion for summary judgment
relative to certain claims in the Rockwell patent.  That motion sought
to have the court summarily find us to have infringed those claims.
Rockwell filed a separate motion seeking to have the court summarily find
that we could not argue that Rockwell's patent was invalid on a
particular ground.  The motions were vigorously opposed by the Company.
A decision on the motions was rendered in the beginning of February
2000.  The District Court ruled that the Company infringed the specified
claims of Rockwell's patent.  The District Court also ruled that we
could not make the invalidity argument specified by Rockwell's motion.

The District Court's ruling prevents us from defending against
Rockwell's lawsuit on the ground that we do not infringe Rockwell's
patent.  The District Court's ruling also prevents us from making
one (but not all) of our invalidity arguments, unless it is changed.
(We are currently seeking to have the court reconsider its decision on
this invalidity argument.)  However, the District Court's ruling has no
effect on our other pending defenses, as outlined above.  We believe
that these defenses in the litigation of patent invalidity, inequitable
conduct, laches and equitable estoppel are meritorious and will pursue
these defenses.

Rockwell's patent expired in January 2000 so that it is no longer
possible for Rockwell to obtain an injunction stopping us from using
the fabrication process allegedly covered by Rockwell's patent.

The resolution of this litigation is fact intensive so that the outcome
cannot be determined and remains uncertain.  If Rockwell prevailed in
the litigation, it could be awarded monetary damages against the
Company.  Although we believe that we have meritorious defenses to
Rockwell's allegations, there can be no assurance that Rockwell will not
ultimately prevail in this dispute.  If Rockwell were to prevail,
Rockwell could be awarded substantial monetary damages against us for
the sale of infringing products.  The award of monetary damages against
us, including past damages, could have a material adverse effect on our
business and results of operations.  Litigation and trial of Rockwell's
claim against us is expected to involve significant expense to us and
could divert the attention of our technical and management personnel and
could have a material adverse effect on our business and results of
operations.

In addition, we are involved in various legal proceedings and
controversies arising in the ordinary course of our business.

**Dependence on Proprietary Technology**

Our future success and competitive position is dependent in part upon
our proprietary technology, and we rely in part on patent, trade secret,
trademark and copyright law to protect our intellectual property. There
can be no assurance that:

> any of the over 200 patents, domestic and foreign, owned or
> approximately 95 patents licensed by us will not be invalidated,
> circumvented, challenged or licensed to others,the rights granted under the patents will provide competitive
> advantages to us,any of our approximately 170 pending or future patent applications
> will be issued with the scope of the claims sought by us, if at all,
> orthat others will not develop technologies that are similar or
> superior to our technology, duplicate our technology or design around
> the patents we own, or obtain a license to the patents we own or
> license, or patent or assert patents on technology that we might use
> or intend to use.

In addition, effective copyright and trade secret protection may be
unavailable, limited or not applied for in certain foreign countries. A
portion of our technology is licensed on a non-exclusive basis from
Xerox and other third parties that may license such technology to
others, including our competitors.  There can be no assurance that steps
we take to protect our technology will prevent misappropriation of such
technology. In addition, litigation has been necessary and may be
necessary in the future:

> to enforce our patents and other intellectual property rights,to protect our trade secrets,to determine the validity and scope of the proprietary rights of
> others, orto defend against claims of infringement or invalidity of
> intellectual property rights developed internally or acquired from
> third parties.

Litigation of this type has resulted in substantial costs and diversion
of resources and could have a material adverse effect on our business
and results of operations. Moreover, we may be required to participate
in interference proceedings to determine the propriety of inventions.
These proceedings could result in substantial cost to us.

**International Distribution Risks**

Revenues from customers outside of the United States accounted for
approximately 41 percent, 27 percent and 25 percent, of our total
revenue in fiscal 1999, 1998 and 1997, respectively. International
revenue carries a number of inherent risks, including:

> reduced protection for intellectual property rights in some
> countries,the impact of unstable environments in economies outside the United
> States,generally longer receivable collection periods,changes in regulatory environments,tariffs, andother potential trade barriers.

In addition, some of our international revenue is subject to export
licensing and approvals by the Department of Commerce or other Federal
governmental agencies. Although to date, we have experienced little
difficulty in obtaining such licenses or approvals, the failure to
obtain these licenses or approvals or comply with such regulations in
the future could have a material adverse effect on our business and
results of operations.

We currently use local distributors in key industrialized countries and
local representatives in smaller markets. Although we have formal
distribution contracts with some of our distributors and
representatives, some of our relationships are currently on an informal
basis. Most of our international distributors and representatives offer
only our products; however, certain distributors offer competing
products and we cannot assure you that additional distributors and
representatives will not also offer products that are competitive with
our products. Certain of our acquisitions have contracts with distributors or
representatives that may have conflicts with our existing distributors
and representatives or in any event may desires to terminate certain
distributors or representatives relationships.  Such a termination may
result in monetary expenses or a loss of revenue.  We cannot assure you
that our international distributors and representatives will enter into
formal distribution agreements at all or on acceptable terms, will not
terminate informal or contractual relationships, will continue to sell
our products or that we will provide the distributors and resellers with
adequate levels of support. Our business and results of operations will
be affected adversely if we lose a significant number of our
international distributors and representatives or experience a decrease
in revenue from these distributors and representatives.

**Environmental Risks**

We are subject to a variety of federal, state and local laws and
regulations concerning the storage, use, discharge and disposal of
toxic, volatile, or otherwise hazardous or regulated chemicals or
materials used in our manufacturing processes. Further, we are subject
to other safety, labeling and training regulations as required by local,
state and federal law. We have established an environmental and safety
compliance program to meet the objectives of applicable federal, state
and local laws. Our environmental and safety department administers this
compliance program which includes monitoring, measuring and reporting
compliance, establishing safety programs and training our personnel in
environmental and safety matters. We cannot assure you that changes in
these regulations and laws will not have a material adverse effect on
us. Further, these local, state, and federal regulations could restrict
our ability to expand our operations. If we do not:

> obtain required permits for,operate within regulations for,control the use of, oradequately restrict the discharge of hazardous or regulated
> substances or materials under present or future regulations, we may
> be required to pay substantial penalties, to make costly changes in
> our manufacturing processes or facilities or to suspend our
> operations.

If we are unable to successfully address any of these risks, our business
could be materially and adversely affected.

**Potential Volatility of Stock Price**

The market price of our Common Stock may fluctuate significantly
because of:

> announcements of technological innovations,large customer orders,customer order delays or cancellations,customer qualification delays,new products by us, our competitors or third parties,possible acquisition of us or our customers or our competitors by a
> third party,merger or acquisition announcements, by us or others,production problems,non-cash stock compensation charges due to stock option plans or
> stock purchase plans,quarterly variations in our actual or anticipated results of
> operations, anddevelopments in litigation in which we are or may become involved.

Furthermore, the stock market has experienced extreme price and volume
volatility, which has particularly affected the market prices of many
high technology companies. This volatility has often been unrelated to
the operating performance of such companies. This broad market
volatility may adversely affect the market price of our Common Stock.
Many companies in the optical communications industry have in the past
year experienced historical highs in the market prices of their stock.
We cannot assure you that the market price of our Common Stock will not
experience significant volatility in the future, including volatility
that is unrelated to our performance.

**Future Operating Results**

We will report operating losses for the foreseeable future as a result
of recent accounting charges for amortization of intangible assets and
for in process research and development related to acquisitions and
expenses related to the issuance of stock pursuant to our employee stock
plans.   Beginning in the first quarter of 2000, we will be presenting
earnings in our press release that exclude acquisition costs and
expenses related to the issuance of stock pursuant to our employee stock
plans.

In March 2000, the Company acquired Queensgate Instruments, Limited
("Queensgate") for initial consideration of $3 million of cash and
347,962 shares of the Company's common stock with a fair value of
approximately $77 million, and contingent payments of up to an
additional $150 million in common stock based on Queensgate's pretax
profits for the ten months ended December 31, 2000 and the twelve months
ended December 31, 2001.   In addition, we expect to close the
acquisition of Veritech Microwave, Inc. ("Veritech") in April 2000.  We
entered into an agreement to acquire Veritech in February 2000 for
3,000,000 shares of the Company's common stock with a fair value of
approximately $621 million.  The acquisitions will be accounted for
under the purchase method of accounting. Under purchase accounting, we
will record the market value of our common shares issued in connection
with the purchases and the amount of direct transaction costs as the
cost of acquiring the companies. That cost will be allocated to the
individual assets acquired and liabilities assumed, including various
identifiable intangible assets such as in-process research and
development, acquired technology, acquired trademarks and trade names
and acquired workforce, based on their respective fair values. We will
allocate the excess of the purchase cost over the fair value of the net
assets to goodwill.  We estimate that the purchase of these two
companies will result in annual amortization of goodwill and other
intangible assets of approximately $100 million to $140 million using a
five year useful life.  As a result, purchase accounting treatment of
our recent acquisitions will result in a net loss for the foreseeable
future, which could have a material adverse effect on the market value
of our stock.

We expect to incur $12.1 million, primarily in the 2nd and 3rd quarters of
fiscal 2000, of non-cash expenses relating to shares issued under our
1995 Employee Stock Purchase Plan.   These expenses are a result of
demand for shares during the purchase period for the two years ending
October 2000 exceeding the number of shares that were authorized at the
beginning of the purchase period.   In addition, stock options exercised
by employees of our United Kingdom subsidiary may result in significant
expenses.   Under United Kingdom law, the Company is required to pay
national insurance tax on the gain on stock options exercised by
employees in the United Kingdom.  Based on the stock price at December
31, 1999, the Company has a $2.7 million contingent liability that will
be charged to operations in the period that the options are exercised.
The options were granted to United Kingdom employees beginning in May
1999 and have a 10 year option exercise period and vest 25% per year of
employment. The expenses related to issuance of stock pursuant to our
employee stock plans could have a material adverse effect on the market
value of our stock.

**ITEM 2.  PROPERTIES**

We lease two adjacent buildings comprising approximately 64,000 square
feet of office and manufacturing space in San Jose, California.  These
facilities serve as our headquarters and include manufacturing,
marketing, research, engineering and administrative functions.  The
present leases expire in November 2001.  We have renewal options to
extend these leases through November 2016.

In January 1995, we leased an additional 50,000 square feet of
manufacturing and office space in Santa Clara, California, approximately
three miles from our headquarters.  In 1997, we exercised an option for
an adjacent additional 50,000 square feet.  This lease, including the
additional space, expires in March 2002.  We have renewal options to
extend this lease through 2017.

SDL Optics leases approximately 50,000 square feet of manufacturing and
office space, near Victoria, British Columbia, Canada.  These facilities
serve as SDL Optics' headquarters and include manufacturing, marketing,
research, engineering and administrative functions.  We have options to
extend this lease through July 2009.

SDL Integrated Optics Ltd. leases approximately 22,000 square feet of
manufacturing and office space in Eastways, Witham, United Kingdom.
These facilities serve as SDL Integrated Optics' headquarters and
include manufacturing, marketing, research, engineering and
administrative functions.  We have options to extend this lease through
2012.

The Company also leases smaller facilities in Cambridge, Massachusetts
and Bensalem, Pennsylvania.

**ITEM 3.  LEGAL PROCEEDINGS**

In 1985, Rockwell International Corporation (Rockwell) asserted, and in
1995 filed suit in the Northern California Federal District Court
against the Company alleging, that a Company fabrication process
infringed certain patent rights set forth in a patent owned by Rockwell.
Rockwell sought to permanently enjoin the Company from infringing
Rockwell's alleged patent rights and sought unspecified actual and
treble damages plus costs and attorney's fees.  The Company answered
Rockwell's complaint asserting, among other defenses, that Rockwell's
patent was invalid.  Rockwell's suit was stayed in 1995 pending
resolution of another suit, involving the same patent, brought by
Rockwell against the Federal government, and in which SDL had
intervened.  The suit between the Federal government and Rockwell was
resolved in January 1999, by way of a settlement payment of $16.9
million from the Federal government to Rockwell.  The Company did not
participate in the settlement.  As a result of that settlement, the suit
was dismissed and the stay of Rockwell's suit against the Company was
lifted and the California suit was reactivated.  Thereafter, Rockwell
filed motions for partial summary judgment alleging that the Company has
infringed certain patent claims of Rockwell's patent and that certain
invalidity evidence presented by the Company is not applicable, which
motions the Company vigorously opposed in court.  A decision on the
motions was rendered in the beginning of February 2000.  The District
Court ruled that the Company infringed the specified claims of
Rockwell's patent.  The District Court also ruled that the Company
infringed the specific claims of Rockwell's patents.  The District Court
ruling prevents the Company from defending against Rockwell's lawsuit on
the ground that the Company does not infringe Rockwell's patents.  The
District Court's ruling will also prevent the Company from making one
(but not all) of its invalidity arguments.  (The Company is currently
seeking to have the Court reconsider its decision in the invalidity
argument.)  The District Court's ruling has no effect on the Company's
other pending defenses in the litigation.  Despite the District Court's
decisions on Rockwell's motions, the Company believes that Rockwell is
not entitled to any damages because the patent is invalid, based upon
other invalidity defenses, and is unenforceable because Rockwell is
guilty of laches, inequitable conduct, and equitable estoppel.
Rockwell's patent expired in January 2000 so that it is no longer
possible for Rockwell to obtaining an injunction stopping us from using
the fabrication process allegedly covered by Rockwell's patent.  No
trial date has been set and additional discovery, which has been stayed
pending decision on the Rockwell motion, is necessary prior to trial.
While the Company believes that it has meritorious defenses to
Rockwell's lawsuit, there can be no assurance that Rockwell will not
ultimately prevail in this dispute.  The resolution of this litigation
is fact intensive such that the outcome cannot be determined and remains
uncertain.  If Rockwell were to prevail, Rockwell could be awarded
substantial monetary damages.  The award of monetary damages against the
Company, including past damages, could have a material adverse effect on
the Company's business and results of operations.  Litigation and trial
of Rockwell's claim against the Company is also expected to involve
significant expense to the Company and could divert the attention of the
Company's technical and management personnel.

Shortly after the aforementioned suit between Rockwell and the Federal
government was filed in 1993, the Federal government had notified the
Company that if the Federal government were liable to Rockwell, then the
Federal government might seek indemnification for a portion of its
liability from the Company.  Since the Federal government's settlement
with Rockwell in January 1999, it has never stated the amount of the
Company's alleged indemnity obligation, nor has the Federal government
repeated its assertion that the Company might have some indemnity
obligation to it.

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

A Special Meeting of Stockholders (the "Special Meeting") of the Company
was held on February 28, 2000.

At the Special Meeting, the following item was put to a vote of the
stockholders:

An amendment to the Company's Amended and Restated Certificates of
Incorporation to increase the aggregate number of shares of common
stock which the Company is authorized to issue from 70 million to 140
million shares.

The proposal was approved by the following votes:

`For         Against       Abstain
------------- ------------- -------------
  30,698,080        36,579        47,826`

**PART II**

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

In March 2000, in reliance on Regulation S and Section 4(2) under the
Securities Act of 1933, the Company acquired Queensgate Instruments,
Limited for $3 million and 347,962 shares of the Company's Common Stock
plus up to an additional $150 million in shares of the Company's Common
Stock potentially issuable pursuant to the earn-out agreement with the
former shareholders of Queensgate.

The Company's common stock is traded on the Nasdaq National Market under
the symbol SDLI.  The high and low sales prices are as reported by the
Nasdaq National Market.

Price Range of Common Stock

`High       Low
                                                      --------- ---------
 Q4 1999..........................................     $230.00    $79.88
 Q3 1999..........................................      $91.13    $52.94
 Q2 1999..........................................      $61.94    $40.03
 Q1 1999..........................................      $45.38    $19.88

 Q4 1998..........................................      $20.94     $4.88
 Q3 1998..........................................      $14.53     $6.25
 Q2 1998..........................................      $13.75     $9.82
 Q1 1998..........................................      $12.00     $7.57`

**ITEM 6. SELECTED FINANCIAL DATA**

`Years Ended December 31,
                         ---------------------------------------------------------------------------
                             1999            1998           1997            1996           1995
                          (1)(2)(4)(5)    (2)(4)(5)    (1)(2)(3)(4)(5)     (4)(5)       (1)(4)(5)
                         -------------- -------------- --------------- -------------- --------------
                                       (in thousands, except per share data)
Statement of operations
 data:
 Revenue ................     $187,021       $112,792        $102,119        $88,224        $56,429
 Cost of revenue ........      107,238         74,061          71,245         57,075         34,608
                         -------------- -------------- --------------- -------------- --------------
 Gross margin ...........       79,783         38,731          30,874         31,149         21,821
 Research and development       19,043         12,659          11,325          7,566          4,331
 Selling, general, and
   administrative .......       26,695         17,593          43,669         13,439          8,308
 Merger costs............        2,677           --               --            --             --
 In-process research and
   development ..........        1,495           --               753           --           10,010
 Amortization of
   purchased intangibles
   and goodwill..........          809            777             671            645             54
                         -------------- -------------- --------------- -------------- --------------
 Operating income (loss)        29,064          7,702         (25,544)         9,499           (882)
 Net income (loss) ......      $25,213         $7,903        ($24,353)        $8,139        ($2,685)
 Net income (loss) per
   share-basic...........        $0.39          $0.14          ($0.44)         $0.16         ($0.07)
 Net income (loss) per
   share-diluted.........        $0.37          $0.13          ($0.44)         $0.15         ($0.07)
 Weighted average
  shares-basic ..........       64,320         57,436          55,776         49,512         37,568
 Weighted average
 shares-diluted .........       68,470         60,724          55,776         54,476         37,568



                                              As of December 31,
                         ---------------------------------------------------------------------------
                              1999           1998             1997            1996          1995
                         -------------- -------------- --------------- -------------- --------------
                                             (in thousands)
Balance sheet data:
 Working capital ........     $355,262        $63,705         $44,173        $74,272        $25,113
 Total assets ...........      460,953        132,060         112,431        129,429         60,570
 Long-term debt (less
  current portion) ......          965          2,028           2,380            247          1,526
 Stockholders' equity
 (net capital deficiency)     $420,148       $108,206         $89,282       $111,220        $42,162`

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

> (1)     The results of operations for the years ended December 31, 1995, 1997
> and 1999 include write-offs of in-process research and development of
> approximately $10 million, $0.8 million, and $1.5 million,
> respectively, in connection with the acquisition of Seastar Optics,
> Mr. Laser, Inc. and the fiber laser division of Polaroid.(2)     In 1997, the Company changed from a calendar year end to a 52-53 week
> year ending on the Friday closest to December 31.  Fiscal year 1999,
> 1998 and 1997  ended December 31, 1999, January 1, 1999 and January
> 2, 1998, respectively.  For ease of discussion and presentation, all
> fiscal year ends are referred to as ending on December 31.(3)     The results of operations for the year ended December 31, 1997
> include a charge totaling $27.5 million related to costs associated
> with the litigation settlement and related legal costs of the
> Spectra-Physics legal dispute.(4)     In May 1999, the Company authorized a two-for-one stock split of its
> common stock, effected in the form of a stock dividend, which was
> paid on June 2, 1999 to stockholders of record on May 14, 1999.
> In December 1999, the Company authorized another two-for-one stock split
> of its common stock, effected in the form of a stock dividend, which was
> paid on March 14, 2000 to stockholders of record on February 29,
> 2000.  All of the share and per share data in these financial
> statements have been retroactively adjusted to reflect both stock
> splits.(5)     The Company merged with IOC International plc. ("IOC") in May 1999
> in a pooling of interests transaction.  The consolidated financial
> statements have been restated to include the financial position,
> results of operations and cash flows of IOC.

**ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997**

SDL designs, manufactures and markets semiconductor lasers, fiber optic
related products and optoelectronic systems.  Since 1996, the Company
strategy has strongly focused on providing solutions for optical
communications.  The Company's optical communications products power the
transmission of data, voice and Internet information over fiber optic
networks to meet the needs of telecommunications, dense wavelength
division multiplexing (DWDM), cable television and satellite
communications applications.  The demand for DWDM solutions accelerated
significantly in 1999 due to the technology's unique ability to expand
network bandwidth and provide much faster transmission of data, voice
and video signals.  With the qualification of the Company's new wafer
fabrication facility in the first half of 1998 and expansion of yields
and assembly and test capacity in 1999, the Company was able to
successfully ramp capacity and achieve significant revenue growth.
Revenue from fiber optic communications products increased by 179
percent in 1999 compared to 1998.  Revenue from SDL products were also
able to capture a strong position in the undersea fiber optic
communications market, where Company revenue increased from less than 1
percent of total revenue in 1998 to 30 percent of total revenue in the
fourth quarter of 1999.  SDL's optical products also serve a wide
variety of non-communications applications, including materials
processing, printing, medical and scientific instrumentation.  Because
of the diversity of products, customers and applications, gross margins
tend to fluctuate based in part on the mix of revenue in each reported
period.

In 1997, SDL changed its year-end from a calendar year ending December
31, to a 52-53 week year ending on the Friday closest to December 31.
The Company's fiscal 1999 and 1998 ended December 31, 1999 and January
1, 1999, respectively.  For ease of discussion and presentation, all
fiscal year-ends are referred to as ending on December 31.

As a result of the substantial increase in the market price of the
Company's Common Stock beginning in the fourth quarter of 1998, and the
resulting increased levels of employee participation in the Company's
Employee Stock Purchase Plan ("ESPP"), it is currently contemplated
that the number of shares issuable pursuant to the Company's ESPP in
fiscal 2000 will exceed the number of shares that were available under
the Plan at the beginning of the October 1998 employee purchase period.
As a result, the Company expects to incur one-time non-cash charges to
operating results aggregating approximately $12.1 million.  These
charges will occur primarily in the second and third quarters of fiscal
2000.  See Note 10 of Notes to Consolidated Financial Statements.

Certain of the statements contained in this Management's Discussion and
Analysis of Financial Condition and Results of Operations are forward-
looking statements regarding the Company's business, operations and
prospects. The Company's actual results could differ materially from
those in such forward-looking statements. See "Factors Affecting
Earnings and Stock Price."

The following table sets forth certain operating results expressed as a
percentage of total revenue for the periods indicated.

`Years Ended December 31,
                                          ---------------------------------
                                             1999       1998       1997 (1)
                                          ---------- ---------- -----------
Revenue:
  Product revenue ......................       97.5%      91.3%       85.7%
  Research revenue .....................        2.5%       8.7%       14.3%
                                          ---------- ---------- -----------
Total revenue ..........................      100.0%     100.0%      100.0%
                                          ---------- ---------- -----------
Cost of revenue:
  Cost of product revenue (2)...........       56.7%      64.6%       68.1%
  Cost of research revenue (2)..........       81.6%      76.9%       79.6%
                                          ---------- ---------- -----------
Total cost of revenue ..................       57.3%      65.7%       69.8%
                                          ---------- ---------- -----------
Gross margin ...........................       42.7%      34.3%       30.2%

Operating expenses:
  Research and development .............       10.2%      11.2%       11.1%
  Selling, general, and administrative..       14.3%      15.6%       42.7%
  Merger costs..........................        1.4%       --         --
  In-process research and development...        0.8%       --          0.7%
  Amortization of purchased intangibles
   and goodwill.........................        0.4%       0.7%        0.7%
                                          ---------- ---------- -----------
Total operating expense ................       27.1%      27.5%       55.2%
                                          ---------- ---------- -----------
Operating income (loss) ................       15.6%       6.8%      -25.0%
Interest income and other, net .........        2.9%       1.2%        1.6%
                                          ---------- ---------- -----------
Income (loss) before income taxes ......       18.5%       8.0%      -23.4%
Provision for income taxes .............        4.9%       1.0%        0.4%

Net income (loss) ......................       13.6%       7.0%      -23.8%
                                          ========== ========== ===========`

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

> (1)  The results of operations for the year ended December 31, 1997 includes a
>      one-time charge of $27.5 million related to costs associated with the
>      litigation settlement and related legal costs of the Spectra Physics legal
>      dispute.(2)  Cost of product revenue and cost of research revenue are stated as a
>      percentage of product revenue and research revenue, respectively.

**Results of Operations**

Revenue.  The Company recorded a 66 percent increase in revenue to
$187.0 million during 1999, following a 10 percent increase in 1998
revenue to $112.8 million.  Product revenue reported in 1999 increased
77 percent to $182.4 million, following an 18 percent increase to $103.0
million in 1998.  Continued demand for the Company's dense wavelength
division multiplexing (DWDM) products has provided substantially all of
the revenue growth over the past two years.  Revenue generated from
SDL's DWDM products, especially 980nm pump lasers and modules, increased
179 percent from 1998 to 1999.  In 1999, the communication products
represented 72 percent of total revenue. The Company's focus on
commercial product opportunities resulted in research revenue
representing 2 percent of revenue in 1999.  Research revenue accounted
for 9 percent and 14 percent of revenue in 1998 and 1997, respectively.

The Company derived 8 percent, 26 percent, and 34 percent of its 1999,
1998 and 1997 revenue, directly or indirectly from a variety of Federal
government sources.  It is expected that the Federal government revenue
will continue to decrease in 2000 due to the Company's focus on
commercial product opportunities.

Revenues for the year ended December 31, 1999 are not considered
indicative of the results to be expected for any future period. In
addition, there can be no assurance that the market for our products
will grow in future periods at its historical percentage rate or that
certain market segments will not decline. Further, there can be no
assurance that we will be able to increase or maintain our market share
in the future or to achieve historical growth rates.

Gross margin.  Gross margin as a percentage of revenue was 43 percent in
1999, compared to 34 percent and 30 percent for 1998 and 1997,
respectively. Three factors contributed to the increase in gross margins
during 1999. These were: (i) a more favorable mix of higher margin DWDM
product sales, especially increased shipments of pump lasers for
undersea fiber systems, as compared to revenue derived from lower margin
U.S. government contracts and non-communication product sales; (ii)
increased unit volume resulting in better utilization of fixed costs;
and, (iii) reduction of costs related to 980nm pump lasers due to
increased yields and volume. These favorable factors were partially
offset by declining average selling prices on certain products due to
long-term contract arrangements.   The increase in gross margin during
1998 as compared to 1997 resulted from: (i) increased yields and volumes
from the new wafer fab and reduction of costs related to the 980nm pump
module, and (ii) a more favorable mix in the ratio of commercial product
revenue as compared to revenue derived from U.S. government sources.

The Company's gross margin can be affected by a number of factors,
including product mix, customer mix, applications mix, pricing pressures
and product yield.  Generally, the cost of newer products has tended to
be higher as a percentage of product revenue than that of more mature,
higher volume products.  In addition, the cost of research revenue is
significantly higher as a percentage of revenue, as research revenue is
typically based on costs incurred rather than market pricing.
Considering these factors, gross margin fluctuations are difficult to
predict and there can be no assurance that the Company will achieve or
maintain gross margins at historical levels in future periods.

Research and development.  Total expenditures for research and
development increased 50 percent or $6.4 million in 1999 compared with
1998 and increased 12 percent or $1.3 million in 1998 compared with
1997. Research and development expenses represented 10 percent, 11
percent and 11 percent of total revenues in 1999, 1998 and 1997,
respectively. The increase in research and development spending in 1999
and 1998 is primarily due to increased expenditures associated with the
continued development and enhancement of the Company's fiber optic
communication products.  The Company expects to continue to commit
substantial resources to product development in future periods. As a
result, the Company expects research and development expenses to
continue to increase in absolute dollars in future periods, although
research and development expenses may vary as a percentage of revenue.

Selling, general and administrative (SG&A).  Selling, general and
administrative (SG&A) expense was $26.7 million, or 14 percent of
revenue in 1999 as compared to $17.6 million, or 16 percent of revenue
in 1998. This increase in SG&A spending was primarily due to the
following: (i) higher personnel-related costs to support the growth in
revenues and operations; (ii)  expansion of the information systems
infrastructure to manage the Company's growth; and (iii) amortization of
stock compensation.   SG&A expense of $17.6 million in 1998 represented
a decrease of $26.1 million from 1997.  Excluding non-recurring amounts
of approximately $27.5 million for the settlement and related legal
costs incurred in 1997 for the Spectra-Physics vs. SDL, Inc. legal
dispute, SG&A increased $1.4 million in 1998 compared to 1997. Excluding
non-recurring amounts, the increase in SG&A expense during 1998 was
primarily due to continued expansion of the Company's sales and
marketing staff and the commencement of the implementation process for
the Company's new enterprise resource planning software.  The Company
expects that SG&A amounts, will continue to increase to support the
Company's current and expected future volumes of business, including the
expansion of SDL's domestic and international sales and marketing
efforts.  However, there can be no assurances that current SG&A levels
as a percentage of total revenue are indicative of future SG&A as a
percentage of total revenue.

Merger Costs.   The Company recorded merger related costs of $2.7
million in connection with the acquisition of IOC in a transaction
accounted for as a pooling of interest during 1999.  The costs incurred
related primarily to printing, financial advisory, filing fees and
professional fees for legal and accounting services.

In-process research and development.  The acquisition of the fiber laser
business of Polaroid Corporation and Mr. Laser, Inc. during 1999 and
1997, respectively, resulted in the write-offs of purchased in-process
research and development of $1.5 million and $0.8 million, respectively.
In the future, additional in-process research and development write-offs
can be anticipated as the Company may from time to time acquire
companies or product lines.

Amortization of purchased intangibles and goodwill.  Amortization
expense of $809,000 represents an increase of $32,000 and $138,000
compared to 1998 and 1997, respectively.  The increase in 1999 compared
to 1998 is a result of the amortization of intangibles due to the
acquisition of the fiber laser business of Polaroid during 1999 offset
by certain Seastar Optics intangibles that became fully amortized at the
end of 1998.

Interest income, net. Interest income increased $4.0 million during 1999
compared to 1998 primarily due to the interest earned on interest
bearing securities purchased with proceeds from the Company's September
1999 stock offering.   Interest income decreased slightly during 1998
compared to 1997 as a result of lower average cash and investment
balances during 1998.

Provision for Income Taxes. The Company recorded a provision for income
taxes of $9.3 million and $1.1 million for the years ending December 31,
1999 and December 31, 1998, respectively. Excluding the impact of the
in-process research and development charge and IOC merger costs in 1999,
the effective tax rate for 1999 was 24 percent, compared to 12 percent
for 1998. In 1998, the Company benefited from previously unrecognized
tax loss carryforwards, generated from a 1997 legal settlement, which
reduced the federal and state provisions to minimum tax levels offset
partially by unbenefited foreign tax losses generated. The increase in
the 1999 tax rate is primarily attributable to the Company's utilization
of the remainder of those federal and state tax loss carryforwards. The
Company's effective tax rate is expected to be close to the statutory
rate in future years.

Although realization is not assured, the Company believes that it will
generate future taxable income sufficient to realize the benefit of the
$4.0 million of net deferred tax assets recorded. The amount of the net
deferred tax assets considered realizable could be reduced or increased
in the near term if estimates of future taxable income are changed.
Management intends to evaluate the realizability of the net deferred tax
assets on a quarterly basis to assess the need for the valuation
allowance.

**Supplemental Quarterly Results of Operations**

The following tables set forth certain unaudited supplemental quarterly
financial data for the four quarters of 1999 and 1998.  The Company
believes that all necessary adjustments, consisting only of normal
recurring adjustments, have been included in the amounts below to
present fairly the selected quarterly information when read in
conjunction with the Supplemental Financial Statements and the Notes
thereto included elsewhere herein.  The results of operations for any
quarter are not necessarily indicative of results that may be expected
for any future period or for the entire year.

`Quarters Ended
                      --------------------------------------------------------------------------------
                                        1999                                     1998
                      ---------------------------------------  ---------------------------------------

                      Mar. 31(1) June 30(2)Sept. 30   Dec. 31    Mar. 31   June 30  Sept. 30  Dec. 31
                      --------- --------- --------- ---------  --------- --------- --------- ---------
Revenue ...........    $37,666   $43,171   $47,507   $58,677    $26,913   $28,386   $26,958   $30,535
Cost of revenue ...     23,033    24,973    26,656    32,576     18,668    19,593    17,498    18,302
                      --------- --------- --------- ---------  --------- --------- --------- ---------
Gross margin ......    $14,633   $18,198   $20,851   $26,101     $8,245    $8,793    $9,460   $12,233
Operating income
  (loss) ..........     $3,498    $4,576    $8,877   $12,113     $1,358    $1,166    $2,031    $3,147
Net income (loss)..     $2,623    $3,211    $7,384   $11,995     $1,421    $1,228    $2,110    $3,144
                      ========= ========= ========= =========  ========= ========= ========= =========
Net income (loss)
  per share-basic..      $0.04     $0.05     $0.12     $0.17      $0.03     $0.02     $0.04     $0.05
                      ========= ========= ========= =========  ========= ========= ========= =========
Net income (loss)
 per share-
 diluted ..........      $0.04     $0.05     $0.11     $0.16      $0.02     $0.02     $0.03     $0.05
                      ========= ========= ========= =========  ========= ========= ========= =========
Weighted average
  shares-basic ....     60,176    61,894    64,186    71,022     56,640    57,128    57,344    58,676
Weighted average
  shares-diluted...     64,296    65,922    68,292    75,374     59,988    60,608    60,480    61,876`

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

> (1)     The results of operations for the quarter ended March 31, 1999
> include one-time charges totaling $2.2 million for the acquisition of
> Polaroid's fiber laser business.(2)     The results of operations for the quarter ended June 30, 1999 include
> one time merger costs totaling $2.7 million related to the
> acquisition of  IOC International plc. on a pooling of interest
> basis.

**Liquidity and Capital Resources**

At December 31, 1999, the Company's combined balance of cash, cash
equivalents and marketable securities was $314.1 million.  Operating
activities generated $34.6 million during 1999 primarily the result of
net income, non-cash expenses for depreciation and amortization, and
increases in accounts payable and accrued payroll, offset by increases
in accounts receivable and inventories.

During 1999, cash used in investing activities was $174.2 million. The Company
incurred capital expenditures of $29.9 million for facilities expansion
and capital equipment purchases to expand its manufacturing capacities
for its fiber optic communication products.  The Company invested excess
net cash of $139.1 million in short term investments.  In addition, the
Company acquired Polaroid's fiber laser business during the first
quarter of 1999 that resulted in cash payments of $5.2 million.

The Company generated $276.8 million from financing activities during
1999 primarily from the issuance of stock under employee stock plans and
a public offering of the Company's common stock, offset by capital lease
and notes payable payments.

The Company generated $10.4 million of cash from operating activities
during 1998 principally from net income from operations adjusted for
non-cash depreciation and amortization changes.  These were offset by an
increase in accounts receivable and inventories.  In addition, the
Company received $10.0 million for the issuance of stock, which was
offset by investments of $14.1 million for facilities expansion and
capital equipment purchases.  As a result, cash, cash equivalents, and
marketable securities increased from $33.6 million at December 31, 1997
to $38.9 million at December 31, 1998.

The Company currently expects to spend approximately $55 million for
capital equipment purchases and leasehold improvements during 2000.

The Company believes that current cash balances, cash generated from
operations, and cash available through the bank and equity markets will
be sufficient to fund capital equipment purchases, acquisitions of
complementary businesses, products or technologies and working capital
requirements for the foreseeable future.  However, there can be no
assurances that events in the future will not require the Company to
seek additional capital sooner or, if so required, that adequate capital
will be available on terms acceptable to the Company.

**Impact of Year 2000**

In prior years, the Company discussed the nature and progress of its
plans to become year 2000 ready.  In late 1999, the Company completed
its remediation and testing of systems.  As a result of those planning
and implementation efforts, the Company experienced no significant
disruptions in mission critical information technology and non-
information technology systems and believes those systems successfully
responded to the Year 2000 date change.  The Company expensed
approximately $1.6 million in connection with remediating its systems.
The Company is not aware of any material problems resulting from Year
2000 issues, either with its products, its internal systems, or the
products and services of third parties.  The Company will continue to
monitor its mission critical computer applications and those of its
suppliers and vendors throughout the year 2000 to ensure that any latent
Year 2000 matters that may arise are addressed promptly.

**ITEM 7A Disclosures About Market Risk**

**Interest Rate Risk**

The Company invests its cash in a variety of financial instruments,
including municipal bonds, auction instruments and money market
instruments.  These investments are denominated in U.S. dollars. Cash
balances in foreign currencies overseas are operating balances and are
only invested in short term deposits of the local operating bank.
Investments in fixed rate interest earning instruments carry a degree of
interest rate risk. Fixed rate securities may have their fair market
value adversely impacted because of a rise in interest rates.  The
Company's future investment income may fall short of expectations
because of changes in interest rates or the Company may suffer losses in
principal if forced to sell securities which have seen a decline in
market value because of changes in interest rates.

The Company's investments are made in accordance with an investment
policy approved by the Board of Directors. No investment securities have
maturities exceeding one year.

The following table provides information about the Company's financial
instruments that are sensitive to changes in interest rates. The table
presents principal amounts and related weighted-average interest rates.

`Fair Value
                                             Principle        at December 31,
                                              Amount               1999
------------------------------------------ -------------     -----------------
Municipal bonds
  Fixed rate securities                         $69,950               $69,950
  Average interest rate                            6.55%
Medium term notes
  Fixed rate securities                         $15,580               $15,500
  Average interest rate                            5.83%
Commerical paper
  Fixed rate securities                        $158,015              $159,471
  Average interest rate                            5.99%
Taxable auction rate preferred notes
  Fixed rate securities                         $15,000               $15,000
  Average interest rate                            6.22%
Money market
  Fixed rate securities                         $46,137               $46,137
  Variable interest rate                           5.83%`

**Exchange Rate Risk**

Currently, the majority of the Company's sales and expenses are
denominated in U.S. dollars and as a result, it has not  experienced
significant foreign exchange gains and losses to date. While the Company
has conducted some transactions in foreign currencies during the years
ended December 31, 1999, 1998 and 1997, and expects to continue to do
so, it does not anticipate that foreign exchange gains or losses will be
significant.  The Company has not engaged in foreign currency hedging
activities to date, however, it may do so in the future.

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

---

**REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS**

The Board of Directors and Stockholders 
SDL, Inc.

We have audited the accompanying consolidated balance sheets of SDL,
Inc. as of December 31, 1999 and 1998, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each
of the three years in the period ended December 31, 1999. Our audits
also included the financial statement schedule listed in the Index at
Item 14(a)(2). These financial statements and schedule are the
responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements and schedule based on
our audits.  We did not audit the financial statements of IOC
International plc, which statements reflect total assets amounting to
$19.6 million as of December 31, 1998, and which reflect a net loss of
$4.9 million in 1998 and net income of $326,000 in 1997. Those
statements were audited by other auditors whose report has been
furnished to us, and our opinion, insofar as it relates to data included
for IOC International plc, is based solely on the report of the other
auditors.

We conducted our audits in accordance with auditing standards generally
accepted in the United States. 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 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 and the report of other
auditors provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
SDL, Inc. at December 31, 1999 and 1998, and the consolidated results of
its operations and its cash flows for each of the three years in the
period ended December 31, 1999, in conformity with generally accepted
accounting principles in the United States. Also, in our opinion, the
related financial statement schedule, when considered in relation to the
basic financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.

/s/ Ernst & Young LLP

San Jose, California 
January 27, 2000,
except for the fifth paragraph of
Note 9 and the first paragraph of 
Note 13, as to which the date is 
March 27, 2000

---

**REPORT OF ARTHUR ANDERSEN, INDEPENDENT AUDITORS**

To IOC International plc:

We have audited the consolidated balance sheet of IOC International plc
(the "Company") as of 30 September 1998 and the related profit and loss
accounts and the cash flow statements for each of the two years in the
period ended 30 September 1998.  These financial statements are not
presented separately herein, but are included in the SDL, Inc. Current
Report on Form 8-K dated 18 May 1999, filed with the Securities and
Exchange Commission.

Respective responsibilities of directors and auditors

The company's directors are responsible for the preparation of the
financial statements.  It is our responsibility to form an independent
opinion, based on our audit, on those statements and to report our
opinion to you.

Basis of opinion

We conducted our audit in accordance with United Kingdom Generally
Accepted Auditing Standards issued by the Auditing Practices Board,
which do not differ in any significant respect from United States
Generally Accepted Auditing Standards.  An audit includes examination,
on a test basis, of evidence relevant to the amounts and disclosures in
the financial statements.  It also includes an assessment of the
significant estimates and judgements made by the directors in the
preparation of the financial statements, and of whether the accounting
policies are appropriate to the circumstances of the company
consistently applied and adequately disclosed.  We planned and performed
our audit so as to obtain all the information and explanations which we
considered necessary in order to provide us with sufficient evidence to
give reasonable assurance that the financial statements are free from
material misstatement, whether caused by fraud or other irregularity or
error.  In forming our opinion we also evaluated the overall adequacy of
the presentation of information in the financial statements.

Opinion

In our opinion the financial statements give a true and fair view of the
state of affairs of the group as at 30 September 1998, and of the
group's loss or profit and cash flows for each of the years ended 30
September 1998 and 1997, in accordance with Generally Accepted
Accounting Principles in the United Kingdom.  Reconciliation to US GAAP
Accounting practices used by the group in preparing the accompanying
financial statements conform with Generally Accepted Accounting
Principles in the United Kingdom, but do not conform with accounting
principles generally accepted in the United States.  A description of
these differences and a reconciliation of net loss or profit and
shareholders' equity to United States Generally Accepted Accounting
Principles is set out in note 24.

/s/ Arthur Andersen

Arthur Andersen
Chartered Accountants
Cambridge, England

15 December 1998

---

**SDL, INC.**

**CONSOLIDATED BALANCE SHEETS**

****

`As of December 31,
                                                         ----------------------
                                                            1999        1998
                                                         ----------  ----------
ASSETS
Current Assets:
  Cash and cash equivalents .......................       $153,016     $17,023
  Short-term investments ..........................        161,120      17,635
  Accounts receivable, net ........................         41,445      23,042
  Inventories .....................................         32,070      21,288
  Prepaid expenses and other current assets .......          3,659       3,875
                                                         ----------  ----------
Total current assets ..............................        391,310      82,863
Property and equipment, net .......................         59,772      39,848
Long-term investments .............................             --       3,552
Restricted Cash....................................            686         722
Note due from related party .......................            480         512
Other assets ......................................          8,705       4,563
                                                         ----------  ----------
Total assets ......................................       $460,953    $132,060
                                                         ==========  ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
  Accounts payable ................................        $18,277     $10,014
  Accrued payroll and related expenses ............         10,717       2,547
  Income taxes payable ............................          1,093       1,890
  Current portion of capital leases ...............          1,011       1,098
  Other accrued liabilities .......................          4,950       3,609
                                                         ----------  ----------
Total current liabilities .........................         36,048      19,158

  Capital leases ....................................          965       1,416
  Notes payable .....................................           --         612
  Other long-term liabilities .......................        3,792       2,668
                                                         ----------  ----------
Total long-term liabilities..........................        4,757       4,696

Commitments and contingencies

Stockholders' equity:
  Preferred stock, $0.001 par value:
    Authorized shares - 1,000,000; none issued.....             --          --
  Common stock, $0.001 par value:
    Authorized shares - 140,000,000;
      issued and outstanding shares -
      71,485,984 and 59,396,320 in
      1999 and 1998, respectively .................             36          15
  Additional paid-in capital ......................        426,029     138,855
  Accumulated other comprehensive income...........          1,557         887
  Accumulated deficit, $26.3 million relating
    to the repurchase of common stock in 1992
    and $5.8 million relating to a
    recapitalization in 1992 ......................         (7,474)    (31,551)
                                                         ----------  ----------
Total stockholders' equity ........................        420,148     108,206
                                                         ----------  ----------
Total liabilities and stockholders' equity ........       $460,953    $132,060
                                                         ==========  ==========`

See accompanying notes.

---

**SDL, INC.**

**CONSOLIDATED STATEMENTS OF OPERATIONS**

(In thousands, except per share data)

`Years Ended December 31,
                                          ---------------------------------
                                             1999       1998       1997
                                          ---------- ---------- -----------
Revenue:
  Product revenue ......................   $182,413   $103,012     $87,505
  Research revenue .....................      4,608      9,780      14,614
                                          ---------- ---------- -----------
Total revenue ..........................    187,021    112,792     102,119
                                          ---------- ---------- -----------
Cost of revenue:
  Cost of product revenue ..............    103,478     66,540      59,614
  Cost of research revenue .............      3,760      7,521      11,631
                                          ---------- ---------- -----------
Total cost of revenue ..................    107,238     74,061      71,245
                                          ---------- ---------- -----------
Gross margin ...........................     79,783     38,731      30,874

Operating expenses:
  Research and development .............     19,043     12,659      11,325
  Selling, general, and administrative..     26,695     17,593      43,669
  Merger costs..........................      2,677        --         --
  In-process research and development...      1,495        --          753
  Amortization of purchased intangibles
   and goodwill.........................        809        777         671
                                          ---------- ---------- -----------
Total operating expense ................     50,719     31,029      56,418
                                          ---------- ---------- -----------
Operating income (loss) ................     29,064      7,702     (25,544)
Interest expense........................       (279)      (440)       (248)
Interest income and other, net .........      5,708      1,724       1,856
                                          ---------- ---------- -----------
Income (loss) before income taxes ......     34,493      8,986     (23,936)
Provision for income taxes .............      9,280      1,083         417
                                          ---------- ---------- -----------
Net income (loss) ......................    $25,213     $7,903    ($24,353)
                                          ========== ========== ===========

Net income (loss) per share-basic ......      $0.39      $0.14      ($0.44)
                                          ========== ========== ===========

Net income (loss) per share-diluted ....      $0.37      $0.13      ($0.44)
                                          ========== ========== ===========
Number of weighted average
 shares-basic ..........................     64,320     57,436      55,776
                                          ========== ========== ===========
Number of weighted of average
 shares-diluted ........................     68,470     60,724      55,776
                                          ========== ========== ===========`

See accompanying notes.

---

**SDL, INC.**

**CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY**

(In thousands, except share data)

`Accumu-
                                                                 lated
                                                                 Other                Total
                                    Common Stock    Additional  Compre-   Accumu-     Stock-
                                -------------------  Paid-in    hensive    lated     holders'
                                  Shares    Amount    Capial    Income    Deficit     Equity
                                ----------- ------- ---------- --------- --------- ------------
Balance at, December 31, 1996.  55,002,516     $13   $126,550     ($242) ($15,101)    $111,220
  Net loss ...................        --       --         --         --   (24,353)     (24,353)
  Cumulative translation
    adjustment................        --       --         --        335       --           335
  Unrealized loss on
    investments...............        --       --         --        (23)      --           (23)
                                                                                   ------------
  Comprehensive loss..........                                                         (24,041)
                                                                                   ------------
  Issuance of stock
    pursuant to
    employee stock plans .....   1,502,736       1      2,102       --        --         2,103
                                ----------- ------- ---------- --------- --------- ------------
Balance at, December 31, 1997.  56,505,252      14    128,652        70   (39,454)      89,282
  Net income .................        --       --         --         --     7,903        7,903
  Cumulative translation
    adjustment................        --       --         --        748       --           748
  Unrealized gain on
    investments...............        --       --         --         69       --            69
                                                                                   ------------
  Comprehensive income........                                                           8,720
                                                                                   ------------
  Proceeds from issuance
    of common stock, net......     435,288     --       5,522       --        --         5,522
  Issuance of stock
    pursuant to
    employee stock plans .....   2,455,780       1      4,463       --        --         4,464
  Income tax benefit from
    exercise of employee
    stock options.............        --       --         218       --        --           218
                                ----------- ------- ---------- --------- --------- ------------
Balance at, December 31, 1998.  59,396,320      15    138,855       887   (31,551)     108,206
  Net income .................        --       --         --         --    25,213       25,213
  Cumulative translation
    adjustment................        --       --         --       (710)      --          (710)
  Unrealized gain on
    investments...............        --       --         --      1,380       --         1,380
                                                                                   ------------
  Comprehensive income........                                                          25,883
                                                                                   ------------
  Compensation expense on
    issuance of stock
    options to third parties..        --       --       1,360        --       --         1,360
  Stock split effected in the
    form of a stock dividend..        --        15        (15)       --       --             --
  IOC net loss for the three
    months ending
    December 31, 1998.........        --       --         --         --    (1,136)      (1,136)
  Issuance of stock
    pursuant to
    employee stock plans .....   5,304,664       3     12,669       --        --        12,672
  Proceeds from issuance
    of common stock, net......   6,785,000       3    266,298       --        --       266,301
  Income tax benefit from
    exercise of employee
    stock options.............        --       --       6,862       --        --         6,862
                                ----------- ------- ---------- --------- --------- ------------
Balance at, December 31, 1999.  71,485,984     $36   $426,029    $1,557   ($7,474)    $420,148
                                =========== ======= ========== ========= ========= ============`

See accompanying notes.

---

**SDL, INC.**

**CONSOLIDATED STATEMENTS OF CASH FLOW**

(In thousands)

`Years Ended December 31,
                                                  -----------------------------
                                                    1999      1998      1997
                                                  --------- --------- ---------
Operating activities
Net income (loss) ...............................  $25,213    $7,903  ($24,353)
                                                  --------- --------- ---------
Adjustments to reconcile net income (loss) to
  net cash provided by (used in)operating
  activities:
    Depreciation ................................   10,914     7,919     5,756
    Amortization.................................      809       777       671
    In-process research and development .........    1,495        --       753
    Compensation expense on stock options granted
        to third parites.........................    1,360        --        --
    Tax benefits from employee stock options.....    6,862       218
    Deferred income taxes .......................       --      (948)       --
    Changes in operating assets and liabilities:
      Accounts receivable .......................  (18,284)   (1,472)   (7,939)
      Inventories ...............................   (9,642)   (6,104)     (845)
      Accounts payable ..........................    8,132       356     1,371
      Accrued payroll and related expenses ......    8,170      (341)      668
      Income taxes payable ......................     (797)    1,062     2,392
      Other accrued liabilities .................    1,935    (1,072)      860
      Other .....................................   (1,533)    2,059    (1,421)
                                                  --------- --------- ---------
Total adjustments ...............................    9,421     2,454     2,266
                                                  --------- --------- ---------
Net cash provided by (used in) operating
       activities ...............................   34,634    10,357   (22,087)
                                                  --------- --------- ---------
Investing activities
Acquisition of property and equipment, net ......  (29,898)  (14,075)  (11,732)
Purchase of marketable securities................ (357,756)  (76,426)  (57,064)
Sales and maturities of marketable securities....  218,626    81,874    90,850
Acquisition of Businesses .......................   (5,205)       --    (3,055)
                                                  --------- --------- ---------
Net cash provided by (used in) investing
       activities ............................... (174,233)   (8,627)   18,999
                                                  --------- --------- ---------
Financing activities
Issuance of stock pursuant to employee stock
  plans .........................................   12,672     4,464     2,103
Proceeds from issuance of common stock...........  266,301     5,522        --
Increase (decrease) in restricted cash...........       20       164      (886)
Payments on capital leases.......................   (1,340)   (1,027)     (136)
Payments on notes payable........................     (898)       --        --
                                                  --------- --------- ---------
Net cash provided by financing activities .......  276,755     9,123     1,081
                                                  --------- --------- ---------
Net increase (decrease) in cash and cash
  equivalents ...................................  137,156    10,853    (2,007)
Net cash activity for IOC for the three months
  ended December 31, 1998.......................    (1,163)       --        --
Cash and cash equivalents at beginning of year...   17,023     6,170     8,177
                                                  --------- --------- ---------
Cash and cash equivalents at end of year......... $153,016   $17,023    $6,170
                                                  ========= ========= =========
Supplemental disclosures of cash flow information
  Cash paid for income taxes ....................   $3,546      $843     $  --
  Cash received from income taxes refunded ......     $301      $214    $1,941
  Cash paid for interest.........................     $336      $463      $204

Non-cash transactions:
  Capital equipment lease additions..............     $924    $1,340    $2,016`

See accompanying notes.

---

**SDL, INC.**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

As of December 31, 1999

**1. Organization and Summary of Significant Accounting Policies**

**Organization**

SDL, Inc. (the Company), a Delaware corporation, designs, manufactures,
and markets semiconductor lasers, fiber optic related products, and
optoelectronic systems. The Company's revenue is derived from: (i) the
sale of standard and customized products to a diverse worldwide customer
base utilizing various market applications and, (ii) customer-funded
research programs, principally through various government agencies.

**Basis of Presentation**

The consolidated financial statements include SDL and its wholly-owned
subsidiaries.  All intercompany accounts and transactions have been
eliminated.  The Company has operations in the United States and
international operations in Canada and the United Kingdom.

In 1997, SDL changed its year-end from a calendar year ending December
31, to a 52-53 week year ending on the Friday closest to December 31.
The Company's fiscal 1999 and 1998 ended December 31, 1999 and January
1, 1999, respectively.  For ease of discussion and presentation, all
fiscal year-ends are referred to as ending on December 31.

As more fully described in Note 11, the Company merged with IOC
International plc. ("IOC") in May 1999 in a pooling of interests
transaction.  The consolidated financial statements for fiscal 1998 and
1997 have been restated to include the financial position, results of
operations and cash flows of IOC.  There were no transactions between
IOC and the Company prior to the combination and no significant
adjustments were necessary to conform IOC's accounting policies to those
of the Company.

Because of differing year ends, financial information relating to SDL's
fiscal years ended December 31, 1998 and 1997, has been combined with
financial information relating to IOC's fiscal years ended September 30,
1998 and 1997.  IOC's net loss for the three months ended December 31,
1998 was not combined with SDL's net income, but rather was included as
an adjustment to stockholders' equity in the Company's financial results
for the fiscal year ended December 31, 1999.  IOC's results of
operations for the twelve months ended December 31, 1999 have been
combined with SDL's results of operations for the twelve months ended
December 31, 1999.

**Use of Estimates**

The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements
and accompanying notes. Such estimates relate to the useful lives of
property, plant and equipment, allowances for doubtful accounts and
customer returns, inventory realizability, potential accruals relating
to litigation matters, future taxable income, warranty and other
accruals, and contingent assets and liabilities. Actual results could
differ from those estimates, and such differences may be material to the
financial statements.

**Cash and Cash Equivalents**

The Company considers all highly liquid investments with original
maturities of three months or less at the time of purchase to be cash
equivalents.  Cash equivalents are carried at fair value.

**Marketable Securities**

The Company's securities are classified as available-for-sale and are
recorded at fair value. Fair value is based upon market prices quoted on
the last day of the fiscal year. The cost of debt securities sold is
based on the specific identification method.  Unrealized gains and
losses are reported as a separate component of stockholders' equity.
Gross realized gains and losses are included in interest income and have
not been material.

**Inventories**

Inventories are stated at the lower of standard cost (which approximates
actual costs on a first-in, first-out basis) or market. The market value
is based upon estimated net realizable value.

**Property and Equipment**

Property and equipment are stated at cost. Equipment and fixtures are
depreciated using the straight-line method over estimated useful lives
ranging from three to eight years. Property and equipment assets held
under capital leases, are capitalized as tangible fixed assets and are
depreciated over the shorter of the lease term or their useful lives.
Leasehold improvements are amortized using the straight-line method over
the shorter of the estimated useful lives or the remaining lease terms.

**Goodwill and Purchased Intangibles**

Goodwill and other purchased intangibles are being amortized using the
straight-line method over three to seven years.

**Revenue Recognition**

Revenue recognition is based on the terms of the underlying sales
agreements (purchase orders or contracts). Revenue from product sales is
recognized at the time the product is shipped, with provisions
established for estimated product returns and allowances.  The Company
provides for the estimated cost to repair products under warranty at the
time of sale.  Revenue for costs incurred plus specified fee contracts
is recognized on the percentage-of-completion method. Revenue for fixed
price milestone contracts is recognized upon the completion of the
milestone. Customers entering into cost incurred and fixed price
contracts with the Company include the U.S. government, prime or
subcontractors for which the U.S. government may be the end customer,
and other domestic and international end-users.

**Concentrations**

Credit Risk - Financial instruments that potentially subject the Company
to concentrations of credit risk consist primarily of cash equivalents,
short-term investments and trade receivables. The Company places its
cash equivalents and short-term investments with high credit-quality
financial institutions. The Company invests its excess cash primarily in
money market funds, commercial paper, municipal bonds, and auction rate
preferred and medium term notes. The Company has established guidelines
relative to credit ratings, diversification and maturities that seek to
maintain safety and liquidity. The Company sells primarily to customers
involved in the application of laser technology and the manufacture of
telecommunications products. The Company performs ongoing credit
evaluations of its customers' financial condition and maintains an
allowance for uncollectible accounts receivable based upon the expected
collectibility of all accounts receivable. Although such losses have
been within management's expectations to date, there can be no assurance
that such reserves will continue to be adequate.  The Company does not
require collateral from its customers.  At December 31, 1999, four
customers and their affiliates accounted for 17 percent, 15 percent, 11
percent, and 11 percent of accounts receivable.

Major Customers -  During fiscal 1999, three customers and their
affiliates accounted for 15 percent, 11 percent and 11 percent of total
revenues.  During fiscal 1998 and 1997, another customer accounted for
13 percent and 17 percent of revenues, respectively.  All U.S.
operations sales to international customers constitute export sales.
Export sales to Europe totaled approximately $40.2 million, $9.3
million, and $5.9 million for 1999, 1998, and 1997, respectively.
Export sales to the Pacific Rim totaled approximately $9.7 million, $8.9
million, and $6.9 million for 1999, 1998, and 1997, respectively.

Dependence Upon Government Programs and Contracts - In 1999, 1998, and
1997, the Company derived approximately 8 percent, 26 percent, and 34
percent, respectively, of its revenue directly and indirectly from a
variety of Federal government sources. The demand for certain of the
Company's services and products is directly related to the level of
funding of government programs.

Dependence on Single Source and Other Third Party Suppliers - The
Company depends on a single or limited number of outside contractors and
suppliers for raw materials, packages and standard components, and to
assemble printed circuit boards. The Company generally purchases these
single or limited source products through standard purchase orders or
one-year supply agreements and has no long-term guaranteed supply
agreements with such suppliers. While the Company seeks to maintain a
sufficient safety stock of such products and also endeavors to maintain
ongoing communications with its suppliers to guard against interruptions
or cessation of supply, the Company's business and results of operations
have in the past been and could in the future be adversely affected by a
stoppage or delay of supply, substitution of more expensive or less
reliable products, receipt of defective parts or contaminated materials,
an increase in the price of such supplies, or the Company's inability to
obtain reduced pricing from its suppliers in response to competitive
pressures.

**Foreign Currency Translation**

The functional currency of the Company's Canadian subsidiary is the U.S.
dollar. The financial statements of the Canadian subsidiary are
remeasured into U.S. dollars for the purposes of consolidation using the
historical exchange rates in effect at the date of the transactions.
Remearsurement gains and losses are recorded in the income statement and
have not been material to date.  The functional currency of the
Company's United Kingdom subsidiary is the British Pound Sterling.  All
assets and liabilities of the Company's United Kingdom subsidiary are
translated at the exchange rate on the balance sheet date.  Revenues and
costs and expenses are translated at weighted average rates of exchange
prevailing during the period.  Translation adjustments are recorded in
accumulated other comprehensive income as a separate component of
stockholders' equity.  Foreign currency transaction gains and losses are
included in interest income and other, net and were immaterial for all
periods presented.

**Net Income (Loss) Per Share**

The following table sets forth the computation of basic and diluted net
income (loss) per share (in thousands, except per share amounts):

`Years Ended December 31,
                                          ---------------------------------
                                             1999       1998       1997
                                          ---------- ---------- -----------
Numerator:
Net income (loss) ......................    $25,213     $7,903    ($24,353)
                                          ========== ========== ===========
Denominator:
Denominator for basic earnings per
  share-weighted average shares.........     64,320     57,436      55,776
Incremental common shares attributable
  to shares issuable under employee
  stock plans(1)........................      4,150      3,288        --
                                          ---------- ---------- -----------
Denominator for diluted earnings per
  share - adjusted weighted average
  shares and assumed conversions........     68,470     60,724      55,776
                                          ========== ========== ===========

Net income (loss) per share - basic.....      $0.39      $0.14      ($0.44)
                                          ========== ========== ===========
Net income (loss) per share - diluted...      $0.37      $0.13      ($0.44)
                                          ========== ========== ===========`

(1) Potential common shares relating to shares issuable under employee stock
    plans are not included in the 1997 calculation due to their
    anti-dilutive effect on the loss per share.

**Comprehensive Income**

Accumulated other comprehensive income presented in the accompanying
consolidated balance sheets consists of the accumulated net unrealized
gains and losses on available-for-sale marketable securities and foreign
currency translation adjustments, net of the related tax effect for all
periods presented.  The tax effects for other comprehensive income were
immaterial for all periods presented.  The components of comprehensive
income (loss) are as follows (in thousands):

`Years ended December 31,
                             -----------------------------
                               1999      1998      1997
                             --------- --------- ---------
Net income (loss)...........  $25,213    $7,903  ($24,353)
Unrealized gain (losses)....    1,380        69       (23)
Change in foreign
   currency translation.....     (710)      748       335
                             --------- --------- ---------
                              $25,883    $8,720  ($24,041)`

**Statement of Position 98-1**

In March 1998, the Accounting Standards Executive Committee of the AICPA
issued Statement of Position (SOP) 98-1, Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use.  The SOP,
which has been adopted prospectively as of September 30, 1998, requires
the capitalization of certain costs incurred in connection with
developing or obtaining internal use software.  Prior to adoption of SOP
98-1, the Company expensed all internal use software related costs as
incurred.  The effect of adopting the SOP was to increase net income for
the year ended December 31, 1999 and December 31, 1998 by $51,000 and
$71,000, respectively.

**Recent Financial Accounting Pronouncements**

In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities" ("SFAS 133").  This statement establishes accounting and
reporting standards for derivative instruments and for hedging
activities.  It requires that derivatives be recognized in the balance
sheet at fair value and specifies the accounting for changes in fair
value.  In June 1999, the FASB issued SFAS 137, "Accounting for
Derivative Instruments and Hedging Activities - Deferral of the
Effective Date of FASB Statement No. 133" to defer the effective date of
SFAS 133 until fiscal years beginning after June 15, 2000.  The Company
generally does not use derivative financial instruments and the impact
of SFAS 133 is not anticipated to be material when adopted.

In December 1999, the staff of the Securities and Exchange Commission
issued Staff Accounting Bulletin No. 101, "Revenue Recognition in
Financial Statements"  ("SAB 101"). The SAB summarizes certain of the
Staff's views in applying generally accepted accounting principles to
revenue recognition in financial statements. SAB 101 provides that if
registrants have not applied the accounting therein they should implement
the SAB and report a change in accounting principle.  SAB 101, as subsequently,
amended, will be effective for the Company no later than the second quarter
of 2000. The Company does not believe that the adoption of SAB 101 will
have a material impact on its financial condition or results of operations.

**2. Marketable Securities**

Available-for-sale marketable securities consist of the following (in
thousands):

`Gross      Gross
                                     Amortized  Unrealized Unrealized Estimated
                                        Cost      Gains      Losses   Fair Value
                                     ---------- ---------- ---------- ----------
December 31, 1999:
 Taxable municipal bonds...........    $69,950        --         --     $69,950
 Medium term notes.................     15,580                    80     15,500
 Commercial Paper..................    158,015      1,456        --     159,471
 Tax-exempt auction rate preferred
   stock...........................     15,000        --         --      15,000
 Money Market Funds................     46,137        --         --      46,137
                                     ---------- ---------- ---------- ----------
                                      $304,682     $1,456        $80   $306,058
                                     ========== ========== ========== ==========

 Included in cash and cash equivalents...............................  $144,938
 Included in short-term marketable securities........................   161,120
                                                                      ----------
                                                                       $306,058
                                                                      ==========


                                                  Gross      Gross
                                     Amortized  Unrealized Unrealized Estimated
                                        Cost      Gains      Losses   Fair Value
                                     ---------- ---------- ---------- ----------
December 31, 1998:
 Medium term notes.................    $10,091         $1        $25    $10,067
 Municipal bonds...................      4,959         20        --       4,979
 Tax-exempt auction rate preferred
   stock...........................      5,950        --         --       5,950
 Money Market Funds................     10,336        --         --      10,336
                                     ---------- ---------- ---------- ----------
                                       $31,336        $21        $25    $31,332
                                     ========== ========== ========== ==========

 Included in cash and cash equivalents...............................   $10,145
 Included in short-term marketable securities........................    17,635
 Included in long-term marketable securities.........................     3,552
                                                                      ----------
                                                                        $31,332
                                                                      ==========`

**3. Accounts Receivable**

Accounts receivable consist of the following:

`As of December 31,
                                                ---------------------
                                                   1999       1998
                                                ---------- ----------
                                                   (In thousands)
Trade receivables..............................   $43,185    $21,460
Receivables under long-term contracts:
  Billed.......................................         --     1,865
  Unbilled costs and estimated earnings,
   current portion.............................       724        722
                                                ---------- ----------
                                                   43,909     24,047
Allowance for doubtful accounts................    (2,464)    (1,005)
                                                ---------- ----------
                                                  $41,445    $23,042
                                                ========== ==========`

**4. Inventories**

Inventories consist of the following:

`As of December 31,
                                                ---------------------
                                                   1999       1998
                                                ---------- ----------
                                                   (In thousands)
Raw materials..................................   $15,115     $7,849
Work-in-process................................    14,615     13,439
Finished Goods.................................     2,340        --
                                                ---------- ----------
                                                  $32,070    $21,288
                                                ========== ==========`

No significant amounts of finished goods or work-in-process related to long-term
contracts are maintained.

**5. Property and Equipment**

Property and equipment consist of the following:

`As of December 31,
                                                ---------------------
                                                   1999       1998
                                                ---------- ----------
                                                   (In thousands)
Machinery and equipment........................   $74,488    $55,777
Leasehold improvements.........................    16,356      8,773
Furniture and fixtures.........................     1,765      3,157
Construction-in-progress.......................     7,468      3,980
                                                ---------- ----------
                                                  100,077     71,687
Less accumulated depreciation and amortization.   (40,305)   (31,839)
                                                ---------- ----------
                                                  $59,772    $39,848
                                                ========== ==========`

Included in property and equipment are assets acquired under capital
lease obligations with a cost and related accumulated depreciation of
approximately $5.9 million and $1.4 million, respectively, at December
31, 1999, and approximately $4.2 million and $0.9 million, respectively,
at December 31, 1998.  The amortization of assets recorded under capital
lease is included within depreciation expense.

**6. Goodwill and Purchased Intangibles**

Purchased intangibles, which are included in other assets, consist of the
following:

`As of December 31,
                                                ---------------------
                                                   1999       1998
                                                ---------- ----------
                                                   (In thousands)
Goodwill.......................................    $1,363     $1,363
Other purchased intangibles....................     3,540      1,945
                                                ---------- ----------
                                                    4,903      3,308
Less accumulated amortization..................    (1,955)    (2,147)
                                                ---------- ----------
                                                   $2,948     $1,161
                                                ========== ==========`

See Note 11, Acquisitions.

**7. Note Due From Related Party**

On May 1, 1997 the Company loaned an officer $612,000 secured by a deed
of trust.  The note is due on the tenth anniversary of the date of the
note; however, $400,000 of the loan may be forgiven. The loan
forgiveness is over ten years in annual amounts of $40,000 for
continuous employment except in year 1 and year 5 whereas $0 and $80,000
are forgiven, respectively.  Other terms provide for mandatory
prepayment if certain events of default occur.  The note shall bear
interest at 8 percent only in the event of a default.  The amount
expected to be forgiven is being amortized to compensation expense over
ten years.

**8. Income Taxes**

The provision for income taxes consists of the following:

`Years Ended December 31,
                                                --------------------------------
                                                   1999       1998       1997
                                                ---------- ---------- ----------
                                                          (In thousands)
Current:
  Federal......................................    $7,144        181     $  --
  State........................................        46         26        --
  Foreign......................................     2,090      1,824        417
                                                ---------- ---------- ----------
                                                    9,280      2,031        417
Deferred:
  Federal......................................       --        (948)       --
  State........................................       --         --         --
                                                ---------- ---------- ----------
                                                      --        (948)       --
                                                ---------- ---------- ----------
                                                   $9,280     $1,083       $417
                                                ========== ========== ==========`

The tax benefits resulting from the exercise of nonqualified stock
options and the disqualifying disposition of shares acquired under the
Company's incentive stock option and employee stock purchase plans were
$6.9 million, $0.2 million and zero in 1999, 1998 and 1997,
respectively. Such benefits were credited to additional paid-in capital.

Pre-tax income (loss) from foreign operations was $3.2 million, $(0.3)
million and $1.4 million in 1999, 1998 and 1997, respectively.

The difference between the provision for income taxes and the amount
computed by applying the Federal statutory income tax rate to income
before taxes is explained below:

`Years Ended December 31,
                                                --------------------------------
                                                   1999       1998       1997
                                                ---------- ---------- ----------
                                                          (In thousands)
Tax at federal statutory rate..................   $12,069     $3,145    ($8,378)
State income tax, net of federal
  tax benefit..................................        30         17       --
Non-deductible in-process, research
  and development write-off....................       523       --          264
Non-deductible merger expenses.................       938       --         --
Foreign taxes and unbenefited foreign loss.....       459      1,960        114
Net operating loss not benefited (utilized)....      --         --        8,829
Valuation allowance............................    (5,203)    (4,025)      --
Tax-exempt interest income.....................      --         (124)      (453)
Other..........................................       464        110         41
                                                ---------- ---------- ----------
Provision for income taxes.....................    $9,280     $1,083       $417
                                                ========== ========== ==========`

Significant components of the Company's deferred tax assets are as follows:

`As of December 31,
                                                ---------------------
                                                   1999       1998
                                                ---------- ----------
                                                   (In thousands)
Deferred tax assets:
  Net operating loss carryforwards.............   $38,125    $10,712
  Reserves and other accrued expenses
    not yet deductible for tax.................     2,564      1,832
  Inventory....................................     4,040      3,088
  Intangible assets............................     4,389      4,157
  Tax credit carryforward......................     4,110      1,800
  Other........................................     2,663        --
                                                ---------- ----------
  Total deferred tax assets....................    55,891     21,589
  Valuation allowance..........................   (50,106)   (16,708)
                                                ---------- ----------
  Net deferred tax assets......................     5,785      4,881
                                                ---------- ----------
Deferred tax liabilities:
  Depreciation.................................    (1,253)      (743)
  Unrealized gain on investment................      (532)       --
  Other........................................       --        (138)
                                                ---------- ----------
  Total deferred tax liabilities...............    (1,785)      (881)
                                                ---------- ----------
Net deferred tax assets........................    $4,000     $4,000
                                                ========== ==========`

The valuation allowance increased by approximately $33.4 million and
$2.4 million in 1999 and 1998, respectively. Approximately $46.3 million
of the valuation allowance is related to the benefits of stock option
deductions, which will be credited to paid-in capital when realized.

As of December 31, 1999, the Company had federal, state, and foreign net
operating loss carryforwards of approximately $103.6 million, $33.5
million, and $7.1 million, respectively, and federal and state tax
credit carryforwards of approximately $2.5 million and $2.5 million,
respectively. The federal and state net operating loss and credit
carryforwards will expire at various dates beginning in years 2001
through 2019, if not utilized.  The foreign net operating loss
carryforwards have no expiration date.

Management has determined, based on the Company's history of prior
operating earnings, its expectations for the future, and the extended
period over which the benefits of certain deferred tax assets will be
realized, that a partial valuation allowance should be provided.  The
realization of the Company's net deferred tax assets, which relate
primarily to temporary differences, net operating loss carryforwards and
tax credit carryforwards is dependent on generating sufficient taxable
income during the periods in which the temporary differences are
expected to reverse. Although realization is not assured, management
believes it is more likely than not that the net deferred tax assets
will be realized.

**9.  Stockholders' Equity**

**Common Stock Offerings**

In July 1998, the Company issued 435,288 shares of common stock at a per
share price of $15.62.  Net proceeds to the Company approximated $5.5
million.

In September 1999, the Company issued 6,785,000 shares of common stock,
including the underwriters' exercise of their over-allotment option for
885,000 shares, priced at $41.00 per share. Net proceeds to the Company
were approximately $266.3 million.

**Shareholder Rights Plan**

The Company has adopted a Shareholder Rights Plan (Rights Agreement).
Pursuant to the Rights Agreement, rights were distributed at the rate of
one right for each share of Common Stock owned by the Company's
stockholders of record on November 17, 1997.  The rights expire on
November 5, 2007 unless extended or earlier redeemed or exchanged by the
Company.  Under the Rights Agreement, each right entitles the registered
holder to purchase one-hundredth of a Series B Preferred share of the
Company at a price of $55. The rights will become exercisable only if a
person or group acquires beneficial ownership of 15 percent or more of
the Company's common stock or commences a tender offer or exchange offer
upon consummation of which such person or group would beneficially own
15 percent or more or the Company's common stock.

**Stock Split**

In May 1999, the Company authorized a two-for-one split of its common
stock, effected in the form of a stock dividend, which was paid on June
2, 1999 to stockholders of record on May 14, 1999.  All of the share and
per share data in these financial statements have been retroactively
adjusted to reflect the stock split.

In December 1999, the Company authorized a two-for-one split of its
common stock, effected in the form of a stock dividend, which was paid
on March 14, 2000 to stockholders of record on February 29, 2000.  All
of the share and per share data in these financial statements have been
retroactively adjusted to reflect the stock split.

**Share Authorization**

In May 1999, the Company's stockholders approved an increase in the
Company's authorized shares of its common stock to 70 million shares.

In February 2000, the Company's stockholders approved an increase in the
Company's authorized shares of its common stock to 140 million shares.

**10.     Stock-Based Compensation Plans**

**Stock Option Plans**

The 1992 Stock Option Plan provided for the granting of incentive stock
options and nonqualified options to purchase up to 18,232,500 shares of
the Company's common stock to officers, directors and key employees at
exercise prices of not less than fair value on the date of grant as
determined by a committee of the Board of Directors. Options granted
were immediately exercisable; however, unexercised options and shares
purchased upon the exercise of the options are subject to vesting over a
one to five year period. Shares not vested at the date of termination of
employment may be repurchased by the Company at the original exercise
price. No further options will be granted under the 1992 Stock Option
Plan.

The Company's 1995 Stock Option Plan was approved by the Board of
Directors in January 1995 and by the stockholders in February 1995. The
purposes of the 1995 Option Plan are to give the Company's employees and
others who perform substantial services to the Company incentive,
through ownership of the Company's common stock, to continue in service
to the Company, and to help the Company compete effectively with other
enterprises for the services of qualified individuals. The 1995 Stock
Option Plan permits the grant of incentive stock options to employees,
including officers and Directors who are employees, and the award of
nonqualified stock options to the Company's employees, officers,
Directors, independent contractors, and consultants. The number of
shares available for grant was initially 2,850,000 shares. Beginning on
the first day of each fiscal year, the number of shares reserved for
grant will be increased by 5 percent of the number of shares of common
stock outstanding as of the end of the preceding fiscal year. Options
granted under the 1995 Stock Option Plan are subject to vesting over a
one to five year period and must generally be exercised by the optionee
during the period of employment or service with the Company or within a
specified period following termination of employment or service. Options
currently expire no later than ten years from the date of grant.

As a result of the IOC pooling of interest transaction in May 1999, the
Company assumed 233,948 options.  Of these options, 47,528 options are
subject to performance criteria based on a specified level of increase
in earnings over a three year period.   To date no stock compensation
charge resulted from the grant of these performance options because
performance targets have not been met.

The Company has reserved 12,155,940 shares of common stock for future
issuance under its Stock Option Plans as of December 31, 1999.

Information with respect to stock option activity is summarized as
follows:

`Outstanding Options
                                                 -----------------------
                                                              Weighted-
                                      Available                Average
                                         for      Number of    Exercise
                                        Grant       Shares      Price
                                     ----------- ------------ ----------
Balance at December 31, 1996......    1,823,348    9,186,732      $1.69
  Options granted.................   (2,230,036)   2,230,036       4.15
  Options canceled................      561,072     (561,072)      4.20
  Options exercised...............         --     (1,027,976)      0.59
  Additional options authorized...    2,680,676          --         --
                                     ----------- ------------
Balance at December 31, 1997......    2,835,060    9,827,720       2.22
  Options granted.................   (2,641,904)   2,641,904       5.87
  Options canceled................      627,520     (627,520)      4.96
  Options exercised...............         --     (1,858,400)      1.02
  Additional options authorized...    2,789,360          --         --
                                     ----------- ------------
Balance at December 31, 1998......    3,610,036    9,983,704       3.24
  Options granted.................   (2,967,438)   2,967,438      28.08
  Options canceled................      245,626     (245,626)      8.08
  Options exercised...............         --     (4,294,988)      2.32
  Additional options authorized...    2,857,188        --           --
                                     ----------- ------------
Balance at December 31, 1999......    3,745,412    8,410,528     $12.30
                                     =========== ============`

During 1999, the Company granted options to purchase 16,000 shares of
common stock to a consultant in exchange for services at an exercise
price of $23.25. In connection with the termination of a former
executive in 1998, the Company extended the exercise period for options
to purchase 16,400 shares of common stock at exercise prices of $3.25
and $6.19.  The Company determined compensation expense for these stock
options based on the estimated fair value of the options as of the end
of each accounting period.  Fair value is determined using the Black-
Scholes model and the exercise price of the option on the date of the
grant, expected life, current stock price, estimated volatility and
interest rates over the period of the option, and the option vesting
period.  As a result, the Company recorded compensation expense
associated with these stock options of $1.4 million during 1999.

Under United Kingdom law, the Company is required to pay national
insurance tax on the gain on stock options exercised by employees in the
United Kingdom.  Based on the stock price at December 31, 1999, the
Company has a $2.7 million contingent liability that will be charged to
operations in the period that the options are exercised.

The following table summarizes information about options outstanding at
December 31, 1999:

`Options Oustanding              Options Exercisable
                 ------------------------------------ ----------------------
                               Weighted-
                                Average    Weighted-              Weighted-
                               Remaining    Average                Average
   Range of         Number    Contractual   Exercise    Number     Exercise
Exercise Prices  Outstanding  Life (Years)   Price    Exercisable   Price
---------------- ------------ ------------ ---------- ----------- ----------
 $0.09 -  $1.52    1,374,972          2.7      $0.21   1,267,770      $0.21
  1.53     3.26    1,189,470          6.6       3.02     729,660       2.89
  3.27     5.00      963,372          7.3       4.29     372,130       4.26
  5.01     6.13      885,894          7.7       5.41     255,542       5.42
  6.14     7.50    1,025,954          8.1       6.29     393,620       6.36
  7.51    17.50      475,700          9.1      13.03       8,350       9.91
 17.51 -  25.00      626,076          9.2      22.87      16,356      22.97
 25.01 -  27.50    1,481,436          9.3      26.71       4,356      26.57
 27.51 - 109.00      387,654          9.7      58.87       1,450      31.00
                 ------------                         -----------
 $0.09 -$109.00    8,410,528          7.4     $12.30   3,049,234      $2.78
                 ============                         ===========`

**Employee Stock Purchase Plan**

To provide employees with an opportunity to purchase common stock of the
Company through payroll deductions, the Company established the 1995
Employee Stock Purchase Plan (the ESPP) and initially reserved 1,800,000
shares of common stock for issuance to participants.  In May 1998 and
1999, 1,600,000 and 1,200,000 additional shares of common stock were
reserved for issuance to participants.  Under the ESPP, the Company's
employees, subject to certain restrictions, may purchase shares of
common stock at the lesser of 85 percent of the fair market value at
either the beginning of each two-year offering period or the end of each
six-month purchase period within the two-year offering period. Under the
ESPP, the Company sold 1,009,676, 597,380, and 474,760 shares in 1999,
1998 and 1997, respectively and 1,883,416 shares were available for
issuance at December 31, 1999. However, it is currently contemplated
that the demand for shares for the offering period for the two years
ending October 2000 will exceed the number of shares that were available
as of the beginning of the offering period. As a result, the Company
will incur non-cash charges to operations of approximately $12.1
million, primarily in the 2nd and 3rd quarters of fiscal 2000, based on
the difference between the purchase price and the fair value of the
common stock for the last share authorization in May 1999.

**Stock-Based Compensation**

The Company has elected to follow Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" (APB 25), and
related interpretations in accounting for its employee stock-based
awards because, as discussed below, the alternative fair value
accounting provided for under Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS
123), requires use of option valuation models that were not developed
for use in valuing stock-based compensation plans. Under APB 25, the
Company generally recognizes no compensation expense with respect to
such awards.

Pro forma information regarding net income and earnings per share is
required by SFAS 123 as if the Company has accounted for its employee
stock options granted subsequent to December 31, 1994 under the fair
value method. The fair value for these options was estimated at the date
of grant using a Black-Scholes option pricing model. The Black-Scholes
option valuation 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 valuation models require the input of
highly subjective assumptions including the expected stock price
volatility. Since the Company's stock-based awards have characteristics
significantly different from those of traded options, and since 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
stock-based awards. The fair value of the Company's stock-based awards
to employees was estimated assuming no expected dividends and the
following weighted-average assumptions:

`Options                      ESPP
                          -------------------------- --------------------------
                            1999     1998     1997     1999     1998     1997
                          -------- -------- -------- -------- -------- --------
Expected Life...........  5 years  4 years  4 years  6 months 6 months 6 months
Expected Volatility.....     0.80     0.72     0.66     0.91     0.84     0.82
Risk Free Interest Rate.     4.68%    5.15%    6.17%    4.70%    5.06%    5.64%`

For the purpose of pro forma disclosures, the estimated fair value of
the above stock-based awards is amortized over the awards' vesting
period. The Company's pro forma information follows (in thousands,
except for per share information):

`Years Ended December 31,
                                   --------------------------------
                                      1999       1998       1997
                                   ---------- ---------- ----------
Pro forma net income (loss).....    ($11,925)    $6,789   ($27,523)
Pro forma net income (loss)
  per share - basic.............      ($0.19)     $0.12     ($0.49)
Pro-forma net income (loss)
  per share - diluted...........      ($0.19)     $0.11     ($0.49)`

Weighted-average fair value of options granted during 1999, 1998 and
1997 were $18.75, $3.26 and $2.23, respectively. The weighted-average
fair value of ESPP rights granted in 1999, 1998 and 1997 were $32.39,
$1.89 and $1.41, respectively.

**11.  Mergers and Acquisitions**

**IOC International plc.**

On May 18, 1999, the Company merged with IOC, a United Kingdom-based
manufacturer of lithium niobate components for long haul fiber optic
transmission systems in a pooling of interests transaction. The Company
exchanged 2,260,196 shares of SDL common stock and reserved 233,948
shares for IOC options assumed by the Company.  Merger related expenses
of $2.7 million were recorded in the second quarter of fiscal 1999.
Combined and separate results of SDL and IOC for the periods prior and
subsequent to the acquisition were as follows (in thousands):

`Years ended December 31,
                                            -----------------------------
                                              1999      1998      1997
                                            --------- --------- ---------
Total revenues:
  Prior to April 1, 1999:..
     SDL...................                  $35,730  $106,138   $91,364
     IOC...................                    1,936     6,654    10,755
  Combined results after March 31, 1999..... 149,355       --        --
                                            --------- --------- ---------
                                            $187,021  $112,792  $102,119

Net income (loss):
  Prior to April 1, 1999:..
     SDL...................                   $3,010   $12,823  ($24,679)
     IOC...................                     (387)   (4,920)      326
  Combined results after March 31, 1999.....  22,590                   --
                                            --------- --------- ---------
                                             $25,213    $7,903  ($24,353)`

**Polaroid Corporation's fiber laser business**

In February 1999, the Company acquired the fiber laser business of
Polaroid Corporation for $5.3 million in cash, which includes related
transaction costs of $0.1 million.  The business acquired included all
the physical assets, intellectual property, including the assignment of
38 patents and the licensing of 22 patents in the fiber laser and fiber
amplifier area, and the ongoing operation of the fiber manufacturing
facilities and fiber laser subsystem.

The acquisition was accounted for under the purchase method of
accounting. The Company recorded $1.5 million as in-process research and
development for development projects that had not yet reached
technological feasibility.  Intangible assets are being amortized
straight-line over a seven year life.  In-process research and
development was identified and valued through analysis of data provided
by Polaroid concerning developmental products, their stage of
development, the time and resources needed to complete them, their
expected income generating ability, target markets and associated risks.
The Income Approach, which includes an analysis of the markets, cash
flows, and risks associated with achieving such cash flows, was the
primary technique utilized in valuing purchased research and development
project.  The Company considered, among other factors, the importance of
each project to the overall development plan, and the projected
incremental cash flows from the projects when completed and any
associated risks. The projected incremental cash flows were discounted
back to their present value using a discount rate of 25 percent. This
discount rate was determined after consideration of the Company's
weighted average cost of capital and the weighted average return on
assets. Associated risks include the inherent difficulties and
uncertainties in completing each project and thereby achieving
technological feasibility, anticipated levels of market acceptance and
penetration, market growth rates and risks related to the impact of
potential changes in future target markets.

In addition, the Company recorded $0.7 million to accrue for certain
pre-existing obligations to integrate the fiber laser business.  The
results of the fiber laser business are not material to the Company's
historical consolidated results of operations.

The purchase price allocation for the fiber laser business acquisition
was recorded as follows (in thousands):

`Inventory .................     $979
Property and equipment.....      229
Intangibles................    2,596
In-process R&D.............    1,495
                            ---------
Net assets acquired........   $5,299
                            =========

Liabilities assumed........      $94
Cash paid, including
transaction costs..........    5,205
                            ---------
Total purchase price.......   $5,299
                            =========`

**Mr. Laser**

In November 1997, the Company acquired all of the outstanding stock of
Mr. Laser, Inc., a company involved in the design and development of
compact laser marking systems. The acquisition was accounted for under
the purchase method of accounting.  The total purchase price was
approximately $1,202,000, which includes related transaction costs of
$22,000 and $187,000 for net acquired liabilities.  At the time of
acquisition, the Company recorded $753,000 as in-process research and
development for development projects that had not yet reached
technologic feasibility. To determine the value of in-process research
and development, the Company considered, among other factors, the state
of development of the compact laser marking system, the costs needed to
complete development, and the expected income and risks associated with
the inherent difficulties and uncertainties in completing development.
Purchase price in excess of amounts allocated to in-process research and
development and net acquired liabilities was approximately $453,000 and
was allocated to goodwill. Goodwill is being amortized straight-line
over a three year life.  Mr. Laser's operating results are included in
the accompanying consolidated financial statements beginning with
November 1997.  The results of Mr. Laser prior to the acquisition were
not material to the Company's consolidated results of operations.

**12.  Commitments and Notes Payable**

The Company has entered into certain capital leases for equipment.  The
leases are secured by the related equipment and cash deposits of $0.7
million as of December 31, 1999.  The cash deposits are classified as
restricted cash on the balance sheet.  The Company also leases all of
its facilities and certain equipment under operating leases. Most of the
operating facilities leases contain 5-year renewal options. The future
minimum lease payments as of December 31, 1999, under the related leases
are as follows (in thousands):

`Capital   Operating
           Fiscal Year               Leases     Leases
---------------------------------- ---------- ----------
  2000............................     1,164      2,402
  2001............................       777      2,372
  2002............................       347        766
  2003............................        50        330
  2004............................         --         --
                                   ---------- ----------
Minimum payments                      $2,338     $5,870
Less interest                          ($362) ==========
                                   ----------
Present value of minimum payments     $1,976
Less current portion                 ($1,011)
                                   ----------
Long-term portion                       $965
                                   ==========`

Rent expense was approximately $2.6 million, $2.5 million and $2.2
million, for 1999, 1998 and 1997, respectively.

**13. Contingencies**

In 1985, Rockwell International Corporation (Rockwell) asserted, and in
1995 filed suit in the Northern California Federal District Court
against the Company alleging, that a Company fabrication process
infringed certain patent rights set forth in a patent owned by Rockwell.
Rockwell sought to permanently enjoin the Company from infringing
Rockwell's alleged patent rights and sought unspecified actual and
treble damages plus costs.  The Company answered Rockwell's complaint
asserting, among other defenses, that Rockwell's patent is invalid.
Rockwell's suit was stayed in 1995 pending resolution of another suit,
involving the same patent, brought by Rockwell against the Federal
government, and in which SDL had intervened.  The suit between the
Federal government and Rockwell was resolved in January 1999, by way of
a settlement payment of $16.9 million from the Federal government to
Rockwell.  The Company did not participate in the settlement.  As a
result of that settlement, the suit was dismissed and the stay of
Rockwell's suit against the Company was lifted and the California suit
was reactivated.  Thereafter, Rockwell filed motions for partial summary
judgment alleging that the Company has infringed certain claims of the
Rockwell patent and that certain invalidity evidence presented by the
Company is not applicable, which motions the Company vigorously opposed
in court.  A decision on the motions was rendered in the beginning of
February 2000.  The District Court ruled that the Company infringed the
specified claims of Rockwell's patent.  The District Court also ruled
that the Company could not make the invalidity argument specified by
Rockwell's motion.  The District Court's ruling prevents the Company
from defending against Rockwell's lawsuit on the ground that the Company
does not infringe Rockwell's patent.  The District Court's ruling will
also prevent the Company from making one (but not all) of its invalidity
arguments, unless the ruling is changed.  (The Company is currently
seeking to have the court reconsider its decision on this invalidity
argument.)  No trial date has been set and additional discovery, which
had been stayed pending the decision on the Rockwell's motions, is
necessary prior to trial.  Despite the District Court's decisions on
Rockwell's motions, the Company believes that Rockwell is not entitled
to any damages because the patent is invalid and unenforceable, and
because Rockwell is guilty of laches and equitable estoppel.
Rockwell's patent expired in January 2000, so that it is no longer
possible for Rockwell to obtain an injunction stopping the Company from
using the fabrication process allegedly covered by Rockwell's patent.
While the Company believes that it has meritorious defenses to
Rockwell's lawsuit, there can be no assurance that Rockwell will not
ultimately prevail in this dispute.  The resolution of this litigation
is fact intensive so that the outcome cannot be determined and remains
uncertain.  If Rockwell prevailed in the litigation, Rockwell could be
awarded substantial monetary damages.  The award of monetary damages
against the Company, including past damages, could have a material
adverse effect on the Company's business and the results of its
operations.  Litigation and trial of Rockwell's claim against the
Company is also expected to involve significant expense to the Company
and could divert the attention of the Company's technical and management
personnel.  However, because the patent expired in January 2000, the
Company will not need a license regardless of the outcome of the
litigation.

Shortly after the aforementioned suit between Rockwell and the Federal
government was filed in 1993, the Federal government had notified the
Company that if the Federal government were liable to Rockwell, then the
Federal government might seek indemnification for a portion of its
liability from the Company.  Since the Federal government's settlement
with Rockwell in January 1999, it has never stated the amount of the
Company's alleged indemnity obligation, nor has it repeated its
assertion that the Company might have some indemnity obligation to the
Federal government.

SDL is engaged in various cost-reimbursement type contracts with the
Federal government.  These contracts utilize allowable costs plus
contract fee to determine revenue.  Federally-funded contracts are
subject to audit of pricing and actual costs incurred, which have
resulted and could result in the future, in price adjustments.  The
government has in the past and could in the future, challenge the
Company's accounting methodology for computing indirect rates and
allocating indirect costs to government contracts.  The government is
currently challenging certain indirect cost allocations.  While
management believes that amounts recorded on its financial statements
are adequate to cover all related risks, the government has not
concluded its investigation or agreed to a settlement with the Company.
Although the outcome of this matter cannot be determined at this time,
management does not believe that its outcome will have a material
adverse affect on the Company's financial position, results of
operations or cash flows.  Nevertheless, based on future developments,
the Company's estimate of the outcome of these matters could change in
the near term.

Trial of the Spectra-Physics vs. SDL, Inc. litigation began before the
Santa Clara County, California Superior Court on May 7, 1997.  On May
19, 1997, before the trial was concluded, the Company, Spectra-Physics
and its subsidiary Opto Power Corporation, and Xerox Corporation made a
comprehensive settlement of their disputes.  During the second quarter
of fiscal 1997, the Company included approximately $27.5 million in
general and administrative expenses for settlement and related legal
costs associated with the resolution of the dispute with Spectra-
Physics, Inc.

In addition, the Company is involved in other legal controversies
arising in the ordinary course of business.

**14. Segments of an Enterprise and Related Information**

**Reportable Segment**

SDL has three reportable segments: communications, research, and
industrial laser.  The communications business unit develops, designs,
manufactures and distributes lasers, modulators, drivers, modules and
subsystems for applications in the telecom, cable television, satellite
and dense wavelength division multiplexing markets.   The research
business unit conducts research, development or product customization,
involving both communications and printing and material processing
applications, for Fortune 500 companies, major international customers,
smaller domestic and international companies, and multiple Federal
government agencies.  Research revenue on the Consolidated Statement of
Operations includes research, development, and product customization
conducted by all the segments of the Company.   The industrial laser
business unit develops, designs, manufacturers and distributes lasers
and subsystems for applications in the surface heat treating, product
marking, digital imaging, digital proofing, and thermal printing
solutions markets.

The operating segments reported below are the segments of the Company
for which separate financial information is available and for which
operating income/loss amounts are evaluated regularly by executive
management in deciding how to allocate resources and in assessing
performance. The accounting policies of the operating segments are the
same as those described in the summary of accounting policies.

The Company's reportable segments are business units that offer
different products.  The reportable segments are each managed separately
because they manufacture and distribute distinct products with different
applications.  The Company does not allocate assets to its individual
operating segments.

Information about reported segment income or loss is as follows (in
thousands):

`Communica-
                                      tion               Industrial
                                    Products   Research    Laser      Total
                                   ---------- ---------- ---------- ---------
Year ended December 31, 1999:
Revenue from external customers...  $135,343     $4,483    $47,195  $187,021
Amortization......................       310        --         499       809
Segment Operating Income..........   $39,246    ($1,114)   ($4,196)  $33,936



                                   Communica-
                                      tion               Industrial
                                    Products   Research    Laser      Total
                                   ---------- ---------- ---------- ---------
Year ended December 31, 1998:
Revenue from external customers...   $62,045     $7,354    $43,393  $112,792
Amortization......................       645        --         132       777
Segment Operating Income (Loss)...    $2,791       $135     $4,776    $7,702


                                   Communica-
                                      tion               Industrial
                                    Products   Research    Laser      Total
                                   ---------- ---------- ---------- ---------
Year ended December 31, 1997:
Revenue from external customers...   $49,109    $11,020    $41,990  $102,119
Amortization......................       645        --         $26       671
In Process R&D....................       --         --         753       753
Segment Operating Income..........    $2,730       $138      ($912)   $1,956`

A reconciliation of the totals reported for the operating segments to the
applicable line items in the consolidated financial statements is as
follows (in thousands):

`Years Ended December 31,
                                              -------------------------------
                                                 1999       1998      1997
                                              ---------- ---------- ---------
Operating Income (Loss)
  Total operating income from operating
     segments...............................    $33,936     $7,702    $1,956
  Merger costs..............................     (2,677)       --         --
  In-process R&D and related costs..........     (2,195)       --         --
  Spectra Physics Lawsuit and related
     legal costs............................        --         --   ($27,500)
                                              ---------- ---------- ---------
Total consolidated operating income (loss)..    $29,064     $7,702  ($25,544)
                                              ========== ========== =========`

**Geographic Information**

Information regarding geographic areas for the years ended December
31, 1999, 1998 and 1997 is as follows (in thousands):

`Long-
                                                           Lived
                                              Revenue(a)   Assets
                                              ---------- ----------
Year ended December 31, 1999:
  United States.............................    $90,587    $50,848
  Canada....................................     22,341      8,289
  United Kingdom............................     20,126      6,290
  France....................................     24,642        --
  Japan.....................................      7,869        --
  Italy.....................................      7,453        --
  Germany...................................      5,889        --
  Other foreign countries...................      8,114        --
                                              ---------- ----------
         Total                                 $187,021    $65,427
                                              ========== ==========

                                                           Long-
                                                           Lived
                                              Revenue(a)   Assets
                                              ---------- ----------
Year ended December 31, 1998:
  United States.............................    $82,882    $33,624
  Canada....................................      6,503      3,016
  United Kingdom............................      4,340      6,917
  Germany...................................      4,771        --
  France....................................      4,308        --
  Japan.....................................      6,886        --
  Other foreign countries...................      3,102        --
                                              ---------- ----------
         Total                                 $112,792    $43,557
                                              ========== ==========

                                                           Long-
                                                           Lived
                                              Revenue(a)   Assets
                                              ---------- ----------
Year ended December 31, 1997:
  United States.............................    $76,171    $28,249
  Canada....................................      2,175      1,366
  United Kingdom............................     10,851      6,054
  Germany...................................      2,936        --
  France....................................      3,221        --
  Japan.....................................      4,123        --
  Other foreign countries...................      2,642        --
                                              ---------- ----------
         Total                                 $102,119    $35,669
                                              ========== ==========`

(a) Revenue is attributed to countries based on the location of customers.

**Major Customers**

During fiscal 1999, three communication product customers and their
affiliates accounted for 15 percent, 11 percent and 11 percent of
revenues, respectively.  During fiscal 1998 and 1997, another customer
purchased products from the communication and industrial laser segments
that accounted for a combined 13 percent and 17 percent of revenues,
respectively.

**15.  Employee Benefit Plan**

In 1990, the Company established the SDL, Inc. Profit Sharing and Saving
Plus Plan (the Plan) that covers substantially all U.S. full-time
employees and is qualified under Sections 401(a) and 401(k) of the
Internal Revenue Code. Participants may defer up to 20 percent of their
pre-tax earnings (up to the Internal Revenue Service limit). The Company
matches 50 percent of employee contributions up to a maximum of 5
percent of the participant's pre-tax earnings. The participants' as well
as the Company's matching contributions are fully vested. Company
contributions to the Plan were approximately $0.7 million, $0.6 million,
and $0.5 million for 1999, 1998, and 1997, respectively.

**16. Subsequent Events (unaudited)**

In February 2000, the Company entered into an agreement to acquire
Veritech Microwave, Inc. ("Veritech") for 3,000,000 shares of the
Company's common stock with a fair value of approximately $621 million.
Veritech is a privately held company located in South Plainfield, New
Jersey, and the transaction is subject to certain regulatory approvals.
Veritech designs, develops, manufactures and markets optoelectronic
modules for long haul undersea and terrestrial fiber optic transmission
systems.  The acquisition is anticipated to close in the second quarter
of fiscal 2000 and will be accounted for under the purchase method of
accounting.  The Company believes it may write-off significant amounts
related to in-process research and development when the acquisition is
completed.

In March 2000, the Company acquired Queensgate Instruments, Limited
("Queensgate") for initial consideration of $3 million of cash and
347,962 shares of the Company's common stock with a fair value of
approximately $77 million, and contingent payments of up to an
additional $150 million in common stock based on Queensgate's pretax
profits for the ten months ended December 31, 2000 and the twelve months
ended December 31, 2001. Queensgate was a privately held company and is
located in Bracknell, United Kingdom.  Queensgate designs, develops,
manufactures and markets optical network monitoring modules for long
haul terrestrial fiber optic transmission systems.  The acquisition will
be accounted for under the purchase method of accounting.  The Company
believes it may write-off significant amounts related to in-process
research and development in the first quarter of fiscal 2000 as a result
of the acquisition.

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

Not applicable.

**PART III**

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

The information required by this item is incorporated by reference
to the Company's Proxy Statement for the 2000 Annual Meeting of
Stockholders.

**ITEM 11.  EXECUTIVE COMPENSATION**

The information required by this item is incorporated by reference
to the Company's Proxy Statement for the 2000 Annual Meeting of
Stockholders.

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

The information required by this item is incorporated by reference
to the Company's Proxy Statement for the 2000 Annual Meeting of
Stockholders.

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

The information required by this item is incorporated by reference to
the Company's Proxy Statement for the 2000 Annual Meeting of
Stockholders.

**PART IV**

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

> Report of Ernst & Young LLP, Independent Auditors.Report of Arthur Andersen, Independent Auditors.Consolidated Balance Sheets as of December 31, 1999 and 1998.Consolidated Statements of Operations for the years ended December
>         31, 1999, 1998 and 1997.Consolidated Statements of Stockholders' Equity for the years ended
>         December 31, 1999, 1998 and 1997.Consolidated Statements of Cash Flows for the years ended
>         December 31, 1999, 1998 and 1997.Notes to Consolidated Financial Statements.

(a)(2).      FINANCIAL STATEMENT SCHEDULES. The following financial
statement schedule is filed as part of this annual report.  All other
financial statement schedules have been omitted because they are not
applicable or are not required or the information required to be set
forth therin is included in the Company's consolidated financial
statements set forth in Item 8 of this Form 10-K and the notes therto.

---

SCHEDULE II

**SDL, INC.**

**VALUATION AND QUALIFYING ACCOUNTS**

(In thousands)

`Balance at Additions
                                    Beginning   Charged              Balance at
                                        of         to       Deduc-     End of
Description                           Period    Expenses   tions(1)    Period
----------------------------------- ---------- ---------- ---------- ----------
Allowance for doubtful accounts
 receivable

Year ended December 31, 1999.....      $1,005     $1,500       ($41)    $2,464
                                    ========== ========== ========== ==========

Year ended December 31, 1998.....      $1,190       $943    ($1,128)    $1,005
                                    ========== ========== ========== ==========

Year ended December 31, 1997.....        $780       $442       ($32)    $1,190
                                    ========== ========== ========== ==========`

----------

(1)  Uncollectible accounts written off.

(a)(3) EXHIBITS.

The exhibits listed in the accompanying index to exhibits are filed
or incorporated by reference as part of this annual report.

---

**SDL, INC.**

**SIGNATURES**

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



| |          
| | ---------
| | SDL, INC.

| |             
| | ------------
| | (Registrant)

Date: March 27, 2000



| |     |                      
| | --- | ---------------------
| | By: | /s/ Michael L. Foster

| |                                                                                                                       
| | ----------------------------------------------------------------------------------------------------------------------
| |                                                                                                                       
| | Michael L. Foster                                                                                                     
| | Chief Financial Officer and Secretary
    (Duly Authorized Officer and Principal
    Financial and Accounting Officer)

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

`Signature                         Title                     Date
---------------------------- ---------------------------------  ---------------
/s/ Donald R. Scifres        Chairman of the Board and          March 27, 2000
    -----------------------    Chief Executive Officer
    Donald R. Scifres          (Principal Executive Officer)


/s/ Michael L. Foster        Chief Financial Officer and        March 27, 2000
    -----------------------    Treasurer ( Principal Financial
    Michael L. Foster          and Accounting Officer)

/s/ Keith B. Geeslin         Director                           March 27, 2000
    -----------------------
    Keith B. Geeslin

/s/ Anthony B. Holbrook      Director                           March 27, 2000
    -----------------------
    Anthony B. Holbrook

/s/ Mark B. Myers            Director                           March 27, 2000
    -----------------------
    Mark B. Myers

/s/ Frederic N. Schwettmann  Director                           March 27, 2000
    -----------------------
    Frederic N. Schwettmann`

---

**SDL, Inc.**

**Annual Report on Form 10-K**

**for the fiscal year ended December 31, 1999**

`Exhibit
  Number                        Exhibit Description
----------  ------------------------------------------------------------
      3.1   Form of Registrant's Restated Certificate of
            Incorporation. (6)

      3.2   Form of Registrant's Amended and Restated Bylaws.(1)

      4.1   Reference is made to Exhibits 3.1 and 3.2.

      4.2   Specimen Common Stock certificate.(1)

      4.3   Rights Agreement, dated as of November 6, 1997, between the
            Company and ChaseMellon Shareholder Services, L.L.C.
            together with: Exhibit A, Form of Rights Certificate;
            Exhibit B, Summary of Rights to Purchase Preferred Stock;
            and Exhibit C Form of Certificates of Designation of the
            Series B Preferred Stock.(2)

     4.3.1  First Amended and Restated Rights Agreement, dated as of
            February 11, 1999, between the Company and Chase Mellon
            Shareholder Services, L.L.C., a New Jersey limited
            liability company. (3)

     10.3 * Form of Registrant's 1995 Stock Option Plan, including forms
            of option agreements thereunder.(1)

     10.4 * Form of Registrant's 1995 Employee Stock Purchase Plan, as
            amended.(1)

     10.5   Technology Agreement between Xerox Corporation,
            Spectra-Physics, Inc. and the Registrant effective March 31,
            1983 and Amendment No. 1 thereto, dated March 31, 1988.(1)

    10.10   Lease Agreement between Rose Orchard I a Joint Venture and
            the Registrant, dated May 16, 1986, as amended October 24,
            1989.(1)

    10.11   Lease Agreement between Rose Orchard I a Joint Venture and
            the Registrant, dated April 28, 1989, as amended October 24,
            1989.(1)

    10.12 * Employment Agreement between Donald R. Scifres and the
            Registrant, dated July 17, 1992, and amendments thereto,
            dated February 19, 1993 and July 29, 1994.(1)

    10.13 * Form of Employment Agreement between officers of the
            Registrant and the Registrant.(1)

    10.14   Lease Agreement between Triangle Development Company and
            Registrant dated January 13, 1995, and Addendum thereto,
            dated January 13, 1995.(1)

    10.15   Employment Agreement between Gregory P. Dougherty and the
            Registrant, dated October 1, 1998. (5)


    10.16   Promissory Note Secured by Deed of Trust dated May 1, 1997
            made by Gregory P. Doughtery and Nancy E. Dougherty payable
            to the Company. (4)

     21.1   Subsidiaries

     23.1   Consent of Ernst & Young LLP, Independent Auditors

     23.2   Consent of Arthur Andersen, Chartered Accountants

     27.1   Financial data schedule`

----------

> (1)     Incorporated by reference to identically numbered Exhibit to the
> Company's Registration Statement on Form S-1 (Commission File No.
> 33-87752), which became effective on March 15, 1995.(2)     Incorporated by reference to Exhibit 1 to the Company's Registration
> Statement on Form 8-A (Commission File No. 000-25688), filed with
> the SEC on November 7, 1997.(3)     Incorporated by reference to Exhibit 1 to the Company's Registration
> Statement on Form 8-AA filed with the SEC on March 19, 1999.(4)     Incorporated by reference to identically numbered Exhibit to the
> Company's Registration Statement on Form 10-K, filed with the SEC on
> March 4, 1998.(5)     Incorporated by reference to identically numbered Exhibit to the
> Company's Registration Statement on Form 10-K, filed with the SEC on
> March 25, 1999.(6)     Incorporated by reference to Exhibit 3.1 to the Company's
> Registration Statement Form S-3 (Commission File No. 333-32068)
> filed with the SEC on March 9, 2000.*     Management contracts or compensatory plans or arrangements.

---