<PAGE>
                                        
                                   UNITED STATES
                         SECURITIES AND EXCHANGE COMMISSION
                               WASHINGTON, D.C. 20549
                                          

                                    FORM 10-K/A 
                                          
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
    ACT OF 1934  
                                          
                    FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 
                                          
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 
    EXCHANGE ACT OF 1934  


                         COMMISSION FILE NUMBER 000-23698 
                                          
                           APPLIED DIGITAL ACCESS, INC. 
              (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

               DELAWARE                              68-0132939
   (STATE OR OTHER JURISDICTION OF          (IRS EMPLOYER IDENTIFICATION NO.)
    INCORPORATION OR ORGANIZATION)

                9855 SCRANTON ROAD, SAN DIEGO, CALIFORNIA 92121
               (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, ZIP CODE)
        (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) (619) 623-2200

     SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE  

         SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
      
           COMMON STOCK, $0.001 PAR VALUE           (TITLE OF CLASS)

Indicate by check mark whether the registrant (1) has filed all reports 
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of  
1934 during the preceding 12 months (or for such shorter period that the  
registrant was required to file such reports), and (2) has been subject to  
such filing requirements for the past 90 days. Yes X No____

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



                                       1

<PAGE>

The aggregate market value of the voting stock held by non-affiliates of the 
registrant, based upon the closing sale price of the Common Stock on February 
28, 1998 as reported on the Nasdaq National Market, was approximately  
$58,670,158. For the purposes of this calculation, shares owned by officers,  
directors and 5% shareholders known to the registrant have been deemed to be  
owned by affiliates. This determination of affiliate status is not   
necessarily a conclusive determination for other purposes.  

There were 12,629,469 shares of the Registrant's Common Stock, $0.001 par 
value, outstanding as of February 28, 1998.  

                        DOCUMENTS INCORPORATED BY REFERENCE 
                                          
Portions of the Registrant's Proxy Statement for the Annual Meeting of 
Shareholders to be held May 21, 1998, referred to herein as the "Proxy  
Statement", are incorporated by reference as provided in Part III.














                                        2

<PAGE>


ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 

     The Financial Statements are set forth on pages F-1 through F-25 of this
Amendment to the Company's Annual Report on Form 10K.  




























                                       3

<PAGE>

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

   (a)                     1.   FINANCIAL STATEMENTS 
















                                       4

<PAGE>

     The following financial statements of the Company are included on pages 
F-1 through F-25 of this Annual Report on Form 10-K:  

     Report of Independent Accountants 

     Consolidated Balance Sheets at December 31, 1996 and December 31, 1997  
     
     Consolidated Statements of Operations for the years ended  December 31,
     1995, 1996 and 1997  
     
     Consolidated Statements of Shareholders' Equity for the years ended 
     December 31, 1995, 1996 and 1997  
     
     Consolidated Statements of Cash Flows for the years ended  December 31,
     1995, 1996 and 1997  
     
     Notes to Consolidated Financial Statements 


                        2.   FINANCIAL STATEMENT SCHEDULES 
                                          
     The following financial statement schedules are included in Item 14 (d):  
     
     Report of Independent Accountants 

     Schedule II  -  Valuation and Qualifying Accounts  
     
     All other schedules for which provision is made in the applicable 
accounting regulations of the Securities and Exchange Commission are not  
required under the related instructions or are inapplicable, and therefore  
have been omitted.  

   (b)    REPORTS ON FORM 8-K 

     The Company filed a report on Form 8-K on December 23, 1997 in connection
with its reincorporation in Delaware.  

   (c)    EXHIBITS 





                                       5




<PAGE>

<TABLE>
<CAPTION>
     EXHIBIT                                                                                           PAGE 
     NUMBER                                                                                           NUMBER 
     ------                                                                                           ------ 
<S>              <C>                                                                                 <C> 
        2.1(5)   Asset Purchase Agreement between Applied Digital Access, Inc. and Applied              --   
                 Computing Devices, Inc. dated February 29, 1996   
   
        2.2(7)   Asset Purchase Agreement between Applied Digital Access, Inc. and MPR                  --   
                 Teltech, Ltd. dated July 16, 1996   
   
       2.3(11)   Asset Purchase Agreement between the Company and Northern Telecom                      --   
                 Limited dated June 27, 1997 (the "Asset Purchase Agreement") (with certain   
                 confidential portions omitted).     
   
       3.3(13)   Certificate of Incorporation of the Company.                                           --   
   
       3.4(14)   Certificate of Agreement of Merger of the Company and its California                  --   
                 predecessor.   
   
      +3.5(15)   Bylaws of the Company.                                                                 --   
   
      10.1 (1)   Registration Rights Agreement by and between the Company and certain                   --   
                 shareholders of the Company, dated May 22, 1992 as amended   
                 pursuant to the Amendment to Registration Rights Agreement   
                 dated April 9, 1993.   
   
       10.2(1)   Lease for the Company's facilities at 9855 Scranton Road, dated June 15, 1993.         --   
   
       10.3(1)   Agreement dated July 1, 1991 by and between the Company and BellSouth   
   
</TABLE>
                                       6

<PAGE>

<TABLE>
<CAPTION>

     EXHIBIT                                                                                           PAGE 
     NUMBER                                                                                           NUMBER 
     ------                                                                                           ------ 
<S>              <C>                                                                                 <C> 
                 Services Incorporated, as amended (with certain confidential portions omitted).        --   
   
       10.4(1)   Software License Agreement dated January 16, 1992 by and between the                   --   
                 Company and GCOM (with certain confidential portions omitted).   
   
       10.5(1)   Master Agreement for Operations Systems Modifications for the Integration of           --   
                 Network Elements, dated June 17, 1991 by and between the Company and   
                 BellCore, as amended.   
   
       10.6(1)   Addendum #1 to Master Agreement for Operations Systems Modifications for               --   
                 the Integration of Network Elements, dated June 17, 1991 by and between the   
                 Company and BellCore dated July 10, 1991.   
   
       10.7(1)   Addendum #2 to Master Agreement for Operations Systems Modifications for               --   
                 the Integration of Network Elements, dated June 17, 1991 by and between the   
                 Company and BellCore dated November 19, 1993.   
   
       10.8(1)   Addendum #3 to Master Agreement for Operations Systems Modification for                --   
                 the Integration of Network Elements dated June 17, 1991 by and between the   
                 Company and BellCore dated December 27, 1993.   
   
      +10.9(1)   Severance Agreement dated November 27, 1990 by and between the Company                 --   
                 and Peter P. Savage.   
   
     +10.10(1)   Severance Agreement dated June 20, 1988 by and between the Company and                 --   
                 Paul R. Hartmann.   
   
     +10.11(1)   1994 Stock Option/Stock Issuance Plan Form of Stock Option Agreement.                  --   
   
     +10.12(1)   1994 Stock Option/Stock Issuance Plan Form of Stock Issuance Agreement.                --   
   
     +10.13(1)   1994 Employee Stock Purchase Plan Form of Stock Purchase Agreement.                    --   
   
     +10.14(1)   Form of Employee Proprietary Information Agreement.                                    --   
   
      10.15(1)   Binary Software License Agreement dated March 7, 1989 between the                      --   
                 Company and Software Components Group, Inc., as amended.   
   
      10.16(2)   Reinstatement Agreement dated September 22, 1994 between the Company and               --   
                 BellSouth Telecommunications Incorporated (with certain confidential portions   
                 omitted) (Exhibit 10.2).   
   
      10.17(2)   Purchase Agreement for Telecommunications Products and Related Services                --   
                 between Ameritech Services, Inc. (with certain confidential portions omitted)   
                 (Exhibit 10.3).   
   
      10.18(3)   First Amendment to Office Lease dated September 23, 1994 between the                   --   
                 Company and Sorrento Tech Associates.   
   
      10.19(4)   Purchase Agreement for Telecommunications Products and Related Services   
                 between Southwestern Bell Telephone Company and the Company, dated   
   
</TABLE>

                                       7

<PAGE>
<TABLE>
<CAPTION>
     EXHIBIT                                                                                           PAGE 
     NUMBER                                                                                           NUMBER 
     ------                                                                                           ------ 
<S>              <C>                                                                                 <C> 
                 September 8, 1995 (with certain confidential portions omitted)                         --   
   
     +10.20(6)   Applied Digital Access, Inc. 1994 Stock Option/Stock Issuance Plan, as                 --   
                 amended.   
   
      10.21(8)   Master Agreement between Northern Telcom, Ltd. and Applied Digital Access,             --   
                 Inc. dated July 16, 1996.   
   
      10.22(8)   Stock Purchase Agreement between Applied Digital Access, Inc. and MPR                  --   
                 Teltech, Ltd. dated July 16, 1996.   
   
      10.23(8)   License Agreement between Northern Telcom, Ltd. and Applied Digital                    --   
                 Access, Inc. dated July 16, 1996   
   
      10.24(8)   Second Amendment to Lease between Sorrento Tech Associates and Applied                --   
                 Digital Access, Inc. dated August 8, 1996.   
   
      10.25(8)   Lease Agreement between Rose Hulman Institute of Technology, through its              --   
                 authorized leasing agent, Ragle and Company, and Applied Digital Access,   
                 Inc. dated September 15, 1996.   
   
      10.26(9)   Sublease agreement between the Company and ENOVA Corporation dated                    --   
                 December 9, 1996.   
   
      10.27(9)   First Amendment to Sublease between the Company and ENOVA Corporation                 --   
                 dated January 24, 1997.   
   
      10.28(9)   Office Lease Agreement between 2725321 Canada Inc. and Applied Digital                --   
                 Access - Canada, Inc. dated January 1, 1997.   
   
      10.29(10)  License Agreement between Northern Telecom, Ltd. and the Company dated                --   
                 as of January 24, 1997.   
   
      10.30(11)  License Agreement between Northern Telecom, Ltd. and the Company dated                --   
                 as of June 27, 1997 (with certain confidential portions omitted).   
   
      10.31(11)  Applied Digital Access, Inc. 1997 Registration Rights Agreement between the           --   
                 Company and Northern Telecom, Ltd. dated as of June 27, 1997.   
   
      10.32(11)  Stock and Warrant Purchase Agreement between the Company and Northern                 --   
                 Telecom, Ltd. dated as of June 27, 1997.   
   
      10.33(11)  Master Purchase Agreement between MCI Telecommunications Corporation                  --   
                 and the Company dated June 16, 1997 (with certain confidential portions   
                 omitted).   
   
      10.34(11)  Master Agreement between Northern Telecom, Ltd. and the Company dated as              --   
                 of June 26, 1997 (with certain confidential portions omitted).   
   
      10.35(12)  Joint Development Agreement between Northern Telecom, Inc. and the                    --   
                 Company dated September 30, 1997  (with certain confidential portions   
                 omitted).   
   
     +10.36(15)  Applied Digital Access, Inc. Amended and Restated 1996 Non-qualified Stock   
                 Option Plan   

</TABLE>

                                        8
<PAGE>

<TABLE>
<CAPTION>
     EXHIBIT                                                                                           PAGE 
     NUMBER                                                                                           NUMBER 
     ------                                                                                           ------ 
<S>              <C>                                                                                 <C> 

    +10.37(15)   Amended and Restated 1996 Non-qualified Stock Option Plan Form of Stock   
                 Option Agreement.   
   
    +10.38(16)   Severance Agreement dated March 24, 1995 by and between the Company and   
                 Donald J. O'Connor.   
   
    +10.39(16)    Severance Agreement dated March 12, 1997 by and between the Company and   
                 Steven F.X. Murphy.   
   
     10.40(16)   Lease Agreement between Campbell Creek, Ltd. and the Company dated as of   
                 October 1, 1997.   
   
     10.41(16)   First Amendment to Lease Agreement between Campbell Creek, Ltd. and the   
                 Company dated as of January 22, 1998.   
   
     10.42(16)   Second Amendment to Sublease between the Company and ENOVA   
                 Corporation dated December 31, 1997.   
   
    +10.43(16)   Form of Indemnification Agreements between the Company and each of its   
                 directors.   
   
    +10.44(16)   Form of Indemnification Agreements between the Company and each of its   
                 officers.   
   
    +10.45(16)   Applied Digital Access, Inc. 1994 Employee Stock Purchase Plan, as amended.   
   
    +10.46(16)   Management Team Incentive Compensation Plan, as amended.   
   
     23.1        Consent of Independent Accountants.   
   
     24.1(16)    Power of Attorney  
   
     27.1(16)    Financial Data Schedule.   

         +        Management contract or compensatory plan.   

         (1)      Incorporated by reference to the Company's Registration Statement on 
                  Form S-1 (No. 33-75258), as amended.
   
         (2)      Incorporated by reference to the Company's Quarterly Report on   
                  Form 10-Q for the quarter ended September 30, 1994 (File No.   
                  0-23698).   
   
         (3)      Incorporated by reference to the Company's Annual Report on   
                  Form 10-K for the fiscal year ended December 31, 1995 (File   
                  No. 0-23698).   
   
         (4)      Incorporated by reference to the Company's Quarterly Report on   
                  Form 10-Q for the quarter ended September 30, 1995 (File No.   
                  0-23698).   
   
         (5)      Incorporated by reference to the Company's Current Report on 
                  Form 8-K dated March 15, 1996 (File No. 0-23698).   
   
         (6)      Incorporated by reference to the Company's Registration   
                  Statement on Form S-8 (No. 333-08297), as amended   
   
         (7)      Incorporated by reference to the Company's Current Report on 
                  Form 8-K dated July 31, 1996 (File No. 0-23698).   
   
         (8)      Incorporated by reference to the Company's Quarterly Report on   
                  Form 10-Q for the quarter ended September 30, 1995 (File No.   
                  0-23698).   
   
         (9)      Incorporated by reference to the Company's Annual Report on   
                  Form 10-K for the year ended December 31, 1996 (File No.   
                  0-23698).   
   
         (10)     Incorporated by reference to the Company's Quarterly Report on   
                  Form 10-Q for the quarter ended March 31, 1997 (File No.   
                  0-23698).   
   
         (11)     Incorporated by reference to the Company's Quarterly Report on   
                  Form 10-Q for the quarter ended June 30, 1997 (File No.   
                  0-23698).   

</TABLE>
                                       9

<PAGE>

<TABLE>
<CAPTION>
     EXHIBIT                                                                                           PAGE 
     NUMBER                                                                                           NUMBER 
     ------                                                                                           ------ 
<S>              <C>                                                                                 <C> 

                                                                                                  
         (12)     Incorporated by reference to the Company's Quarterly   
                  Report on Form 10-Q for the quarter ended September 30, 1997   
                  (File No. 0-23698).   
   
         (13)     Incorporated by reference to the Company's Current Report on Form 8-K dated December 23,   
                  1997(File No. 0-23698).   
   
         (14)     Incorporated by reference to the Company's Current Report on Form 8-K/A dated January 12, 1998   
                  (File No. 0-23698).   
   
         (15)     Incorporated by reference to the Company's Registration   
                  Statement on Form S-8 (File No. 333- 48105).   
   
         (16)     Incorporated by reference to the Company's Annual Report 
                  on Form 10-K dated March 31, 1998 (File No. 0-23698).   
   
</TABLE>
                                       10


<PAGE>

                                    SIGNATURES 

     Pursuant to the requirements of Section 13 or 15(d) of the  Securities
Exchange Act of 1934, the Registrant has duly caused this Amendment to the
Company's report on Form 10K to be signed on its behalf by the undersigned,
thereunto duly authorized.  


                                    APPLIED DIGITAL ACCESS, INC. 

Date:  March 30, 1998                By:       /s/ PETER P. SAVAGE
                                         -------------------------------------
                                                   Peter P. Savage
                                         President and Chief Executive Officer







                                       11


<PAGE>

                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY   

       REPORT ON AUDITED CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED

                         DECEMBER 31, 1995, 1996 AND 1997


<PAGE>

                  APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY  

                    INDEX TO CONSOLIDATED FINANCIAL STATEMENTS 
<TABLE>
<CAPTION>
                                                                        PAGE
                                                                        ----
<S>                                                                     <C>
1.   CONSOLIDATED FINANCIAL STATEMENTS: 
   
     Report of Independent Accountants ................................  F-2
   
     Consolidated Balance Sheets as of December 31, 1996 and 1997......  F-3 
   
     Consolidated Statements of Operations for the Years Ended   
     December 31, 1995, 1996 and 1997..................................  F-4
   
     Consolidated Statements of Shareholders' Equity for the Years Ended   
     December 31, 1995, 1996 and 1997..................................  F-5
   
     Consolidated Statements of Cash Flows for the Years Ended   
     December 31, 1995, 1996 and 1997..................................  F-6
   
     Notes to Consolidated Financial Statements........................  F-7
   

2.   FINANCIAL STATEMENT SCHEDULE:   
   
     Schedule II - Valuation and Qualifying Accounts for the   
     Years Ended December 31, 1995, 1996 and 1997......................  F-25
</TABLE>


                                       F-1

<PAGE>

                         REPORT OF INDEPENDENT ACCOUNTANTS 


To the Board of Directors and Shareholders of
Applied Digital Access, Inc. and subsidiary

We have audited the accompanying consolidated balance sheets of Applied 
Digital Access, Inc. and subsidiary as of December 31, 1996 and 1997 and the 
related consolidated statements of operations, shareholders' equity and cash 
flows for each of the three years in the period ended December 31, 1997. 
These financial statements are the responsibility of the Company's 
management. Our responsibility is to express an opinion on these financial 
statements based on our audits.

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

In our opinion, the consolidated financial statements referred to above 
present fairly, in all material respects, the consolidated financial position 
of Applied Digital Access, Inc. and subsidiary as of December 31, 1996 and 
1997 and the consolidated results of their operations and their cash flows 
for each of the three years in the period ended December 31, 1997, in 
conformity with generally accepted accounting principles.  

COOPERS & LYBRAND L.L.P.

San Diego, California 
January 23, 1998  

                                        F-2


<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY
                                          

                         CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                                       DECEMBER 31,
                                                                                       ------------
                                                                                    1996           1997
                                                                                    ----           ----
                                      ASSETS                                       (DOLLARS IN THOUSANDS)
<S>                                                                               <C>             <C>
Current assets:   
      Cash and cash equivalents...................................................$  1,504        $  4,400
      Investments - available for sale............................................  19,957           8,779
      Accounts receivable, less allowance for doubtful   
           accounts of $50 .......................................................   6,798          12,981
      Inventory, net..............................................................   7,363           5,859
      Deferred income taxes.......................................................     130             130
      Prepaid expenses and other current assets...................................   1,089           3,775
                                                                                  --------        --------
                 Total current assets.............................................  36,841          35,924
   
Property and equipment, net.......................................................   4,936           6,165
Intangible assets, net............................................................   2,823           2,822
Deferred income taxes.............................................................   1,372           1,372
                                                                                  --------        --------
                 Total assets.....................................................$ 45,972        $ 46,283
                                                                                  --------        --------
                                                                                  --------        --------
   
                     LIABILITIES AND SHAREHOLDERS' EQUITY   
Current liabilities:   
      Accounts payable............................................................$  2,120        $  3,478
      Accrued expenses ...........................................................   1,491           2,846
      Accrued warranty............................................................   1,398           1,323
      Current portion of obligations under capital leases.........................      16              18
      Deferred revenue............................................................     587           1,471
                                                                                  --------        --------
                 Total current liabilities........................................   5,612           9,136
   
Obligations under capital leases, net of current portion..........................      33              15
                                                                                  --------        --------
                 Total liabilities................................................   5,645           9,151
                                                                                  --------        --------
   
Commitments and contingency   
   
Shareholders' equity:   
      Preferred stock, no par value, 7,500,000 shares authorized,
           no shares issued.......................................................      -              -
      Common stock, $0.001 par value, 30,000,000 shares authorized,
           12,255,334 and 12,605,082 shares issued and outstanding at
           December 31, 1996 and 1997, respectively...............................  50,631          51,610
      Additional paid-in capital..................................................   2,492           2,492
      Unrealized gain on investments .............................................      25              84
      Deferred compensation.......................................................     (50)             -
      Accumulated deficit......................................................... (12,771)        (17,054)
                                                                                  --------        --------
                 Total shareholders' equity.......................................  40,327          37,132
                                                                                  --------        --------
                 Total liabilities and shareholders' equity.......................$ 45,972        $ 46,283
                                                                                  --------        --------
                                                                                  --------        --------
</TABLE>

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

                                     F-3

<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY
                                          

                     CONSOLIDATED STATEMENTS OF OPERATIONS
                                          

  
<TABLE>
<CAPTION>
                                                                                                YEARS ENDED DECEMBER 31,
                                                                                                ------------------------
                                                                                             1995         1996         1997
                                                                                             ----         ----         ----
                                                                                                 (DOLLARS IN THOUSANDS,
                                                                                                 EXCEPT PER SHARE DATA)
<S>                                                                                        <C>            <C>         <C>
Revenue          ......................................................................... $20,470        $24,422     $34,050
Cost of revenue  .........................................................................   8,717         12,609      15,116
                                                                                           -------        -------     -------
     Gross profit.........................................................................  11,753         11,813      18,934
                                                                                           -------        -------     -------
Operating expenses:   
     Research and development.............................................................   5,807          7,356       9,164
     In-process research and development related
         to acquisitions..................................................................      -           3,286       1,578
     Sales and marketing..................................................................   4,234          6,312       7,995
     General and administrative...........................................................   2,976          3,529       5,252
                                                                                           -------        -------     -------
                 Total operating expenses.................................................  13,017         20,483      23,989
                                                                                           -------        -------     -------
                 Operating loss...........................................................  (1,264)        (8,670)     (5,055)
                                                                                           -------        -------     -------
Interest income  .........................................................................   2,023          1,673         904
                                                                                           -------        -------     -------
                 Income (loss) before income taxes........................................     759         (6,997)     (4,151)
                                                                                           -------        -------     -------
Provision for income taxes................................................................      -             123         132
                                                                                           -------        -------     -------
                 Net income (loss)........................................................ $   759        $(7,120)    $(4,283)
                                                                                           -------        -------     -------
                                                                                           -------        -------     -------
                 Net income (loss) per share, basic and diluted ..........................    $.06          $(.59)      $(.34)
                                                                                             ----           -----      ------
                                                                                             ----           -----      ------
                 Shares used in per share computations ...................................  12,848         12,084      12,460
                                                                                            ------         ------      ------
                                                                                            ------         ------      ------
</TABLE>

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

                                      F-4


<PAGE>

                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

                  CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY 

<TABLE>
<CAPTION>
                                                                      UNREALIZED
                                                         ADDITIONAL      GAIN
                                              COMMON      PAID-IN     (LOSS) ON        DEFERRED    ACCUMULATED
                                              STOCK       CAPITAL     INVESTMENTS    COMPENSATION    DEFICIT        TOTAL 
                                              -----       -------     -----------    ------------    -------        ----- 
                                                                     (DOLLARS IN THOUSANDS)
<S>                                           <C>         <C>         <C>             <C>           <C>
Balance, January 1, 1995....................  $48,281     $2,492        $(436)          $(153)      $ (6,410)      $43,774
   
Exercise of stock options and warrants
for 261,662 shares of common stock..........       76        -            -                -              -             76
   
Issuance of 62,493 shares of common   
stock under stock purchase plan.............      643        -            -                -              -            643
   
Unrealized gain on investments..............      -          -            583              -              -            583
   
Amortization of deferred compensation   
related to stock options....................      -          -            -                52             -             52
   
Net income .................................      -          -            -                -             759           759
                                              -------     ------       ------            -----        --------      -------
Balance, December 31, 1995..................   49,000      2,492          147            (101)        (5,651)       45,887
   
Exercise of stock options for 149,261
shares of common stock......................      115        -            -                -              -            115
   
Issuance of 56,857 shares of common   
stock under stock purchase plan.............      428        -            -                -              -            428
   
Unrealized loss on investments..............      -          -           (122)             -              -           (122)
   
Amortization of deferred compensation   
related to stock options....................      -          -            -                51             -             51 
   
Issuance of 150,000 shares of common   
stock in connection with acquisition........    1,088        -            -                -              -          1,088 
   
Net loss ...................................      -          -            -                -           (7,120)      (7,120)
                                              -------     ------       ------            -----       --------       -------
   
Balance, December 31, 1996..................   50,631      2,492           25             (50)       (12,771)        40,327
   
Exercise of stock options for 221,235   
shares of common stock......................      381        -            -                -              -             381
   
Issuance of 128,513 shares of common   
stock under stock purchase plan.............      598        -            -                -              -             598
   
Unrealized gain on investments..............      -          -             59              -              -              59
   
Amortization of deferred compensation   
related to stock options....................      -          -            -                50             -              50
   
Net loss ...................................      -          -            -                -           (4,283)       (4,283)
                                              -------     ------       ------            -----       --------       -------
Balance, December 31, 1997..................  $51,610     $2,492       $   84            $ -         $(17,054)      $37,132
                                              -------     ------       ------            -----       --------       -------
                                              -------     ------       ------            -----       --------       -------
</TABLE>

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


                                       F-5
<PAGE>


                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY
                                          
                       CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
                                                                                       YEARS ENDED DECEMBER 31,
                                                                                       ------------------------
                                                                                   1995           1996         1997   
                                                                                   ----           ----         ----   
                                                                                      (DOLLARS IN THOUSANDS)
<S>                                                                              <C>              <C>          <C>
Cash flows from operating activities:
    Net income (loss).........................................................   $    759         $(7,120)     $(4,283)
    Adjustments to reconcile net income (loss) to net cash used   
        by operating activities:   
           In-process research and development related to acquisitions........        -             3,286        1,578
           Depreciation and amortization......................................        904           1,819        3,089
           Amortization of discount or premium on investments.................        119              95         (119)
           Amortization of deferred compensation..............................         52              51           50
           Change in accounts receivable and inventory reserves...............        103             (68)         101
           Changes in operating assets and liabilities:   
               Accounts receivable............................................     (2,792)         (1,440)      (6,183)
               Inventory......................................................     (2,232)           (723)       1,403
               Prepaid expenses and other current assets......................       (327)            207       (2,686)
               Accounts payable...............................................       (440)            300        1,358
               Accrued expenses...............................................       (515)            648        1,355
               Accrued warranty ..............................................        (15)             93          (75)
               Deferred revenue...............................................        -               587          884
                                                                                   ------          ------       ------
                  Net cash used by operating activities.......................     (4,384)         (2,265)      (3,528)
                                                                                   ------          ------       ------
Cash flows from investing activities:   
    Purchases of investments..................................................    (33,863)        (20,923)     (18,517)
    Maturities of investments.................................................     38,595          30,923       29,792
    Purchases of property and equipment.......................................     (1,948)         (1,709)      (2,432)
    Purchase costs related to asset acquisitions..............................        -            (6,356)      (3,382)
    Purchase of license agreement.............................................        -              (350)          -  
                                                                                   ------          ------       ------
                  Net cash provided by investing activities...................      2,784           1,585        5,461
                                                                                   ------          ------       ------
Cash flows from financing activities:   
    Principal payments on obligations under capital leases....................       (126)            (32)         (16)
    Proceeds from exercise of stock options and warrants......................         76             115          381
    Proceeds from issuance of common stock, net of  costs.....................        643             428          598
                                                                                   ------          ------       ------
                  Net cash provided by financing activities...................        593             511          963
                                                                                   ------          ------       ------
                  Net increase (decrease) in cash and cash equivalents........     (1,007)           (169)       2,896
   
Cash and cash equivalents at beginning of year................................      2,680           1,673        1,504
                                                                                   ------          ------       ------
           Cash and cash equivalents at end of year...........................     $1,673          $1,504       $4,400
                                                                                   ------          ------       ------
                                                                                   ------          ------       ------
</TABLE>

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


                                       F-6


<PAGE>

                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

                    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
                                          
1.    NATURE OF OPERATIONS: 

         Applied Digital Access, Inc. and subsidiary (the "Company") designs,
         engineers and manufactures network test and performance monitoring 
         systems, software and services for the management and test of 
         telecommunication circuits. Current sales are concentrated with 
         telecommunication service providers or affiliated companies in the 
         United States and Canada.  

         The market for the Company's products is characterized by rapid
         technological advances, evolving industry transmission standards, 
         changes in customer requirements and frequent new product introductions
         and enhancements. The introduction of telephone network test and 
         performance monitoring products involving superior technologies or the
         evolution of alternative technologies or new industry transmission 
         standards could render the Company's existing products, as well as 
         products currently under development, obsolete and unmarketable.
      
2.    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: 

      PRINCIPLES OF CONSOLIDATION 

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

     CASH AND CASH EQUIVALENTS 

        Cash and cash equivalents consist of cash and short-term investments 
        with original maturities of 90 days or less when purchased.  

     INVENTORY 

        Inventory is stated at the lower of cost or market using the first-in, 
        first-out method.  

        The Company currently buys certain key components of its products from 
        a limited number of suppliers. Although there are a limited number of  
        suppliers of the components, management believes that other suppliers  
        could provide similar key components on comparable terms. A change in  
        suppliers, however, could cause a delay in manufacturing and a possible
        loss of sales, which would adversely affect operating results.  

                                       F-7


<PAGE>


                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: 

     INVESTMENTS 

        The Company determines the appropriate classification of its debt 
        securities at the time of purchase and re-evaluates such designations at
        each balance sheet date. Investments are classified as "available for  
        sale" and are carried at their fair value. Realized gains and losses are
        determined using the specific identification method and are included in 
        other income. Gross unrealized holding gains or losses are excluded 
        from earnings and reported, net of the related tax effect, as a 
        separate component of shareholders' equity. The amortized cost of debt 
        securities is adjusted for the amortization of premiums and accretion 
        of discounts to maturity. Such amortization is included in interest 
        income. Fair value is determined based on quoted market prices.  

     PROPERTY AND EQUIPMENT 

        Property and equipment is stated at cost and depreciated over the 
        estimated useful lives of the assets (3 to 7 years) using the  
        straight-line method. Leased property meeting certain criteria is  
        capitalized and the present value of the related lease payments is  
        recorded as an obligation. Amortization of capitalized leased assets is
        computed on the straight-line method over the shorter of the lease term
        or the assets' estimated useful lives.  

        Maintenance and repairs are charged to expense as incurred. Upon the 
        retirement or other disposition, the property and related accumulated 
        depreciation or amortization are removed from the accounts and any  
        resulting profit or loss is reflected in income.  

     INTANGIBLE ASSETS 

        The Company amortizes costs in excess of fair value of net assets of 
        businesses acquired using the straight-line method over 3 to 5 years. 
        Recoverability is reviewed annually or sooner if events or changes in 
        circumstances indicate that the carrying value may exceed fair value.  

     REVENUE RECOGNITION 

        Revenue is generally recognized at the time of shipment or delivery, 
        based on specified shipping terms, or when services have been performed.
        When customer acceptance criteria are specified in the customer order,  
        revenue recognition is deferred until the acceptance criteria are met.  

                                        F-8

<PAGE>

                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          
               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: 

     INCOME TAXES 

        Deferred income taxes are recognized for the tax consequences in 
        future years for differences between the tax basis of assets and 
        liabilities ("temporary differences") and their financial reporting 
        amounts at each  year end based on enacted tax laws and statutory 
        rates applicable to the  periods in which the temporary differences 
        are expected to affect  taxable income. Valuation allowances are 
        established when necessary to  reduce deferred tax assets to the 
        amount expected to be realized. Income  tax expense is the tax 
        payable for the period and the change during the  period in deferred 
        tax assets and liabilities.  

     ADVERTISING COSTS 

        Advertising costs are expensed as incurred.  Total advertising 
        expense  was approximately  $141,000,  $217,000 and $250,000 for the 
        years ended December 31, 1995, 1996 and 1997, respectively.  

     STOCK-BASED COMPENSATION 

        Statement of Financial Accounting Standards ("SFAS") No. 123, 
        ACCOUNTING FOR STOCK-BASED COMPENSATION, encourages, but does not 
        require,  companies to record compensation cost for stock-based 
        employee compensation plans at fair value. The Company has chosen to 
        continue to account for stock-based compensation using the intrinsic 
        value method prescribed in Accounting Principles Board Opinion No. 
        25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and related 
        interpretations. Accordingly, options granted at below fair market 
        value result in deferred  compensation to the extent of the 
        difference between the fair market  value at the date of grant and 
        the exercise price. The deferred compensation is charged to earnings 
        ratably over the vesting period.  During the three year period ended 
        December 31, 1997, no options were  granted at below fair market 
        value.  

     USE OF ESTIMATES 

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



                                       F-9

<PAGE>

                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          
               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: 

     NEW ACCOUNTING PRONOUNCEMENTS 

        In June 1997, the Financial Accounting Standards Board issued SFAS 
        No. 130, COMPREHENSIVE INCOME, and SFAS No. 131, DISCLOSURE ABOUT 
        SEGMENTS  OF AN ENTERPRISE AND RELATED INFORMATION. SFAS No. 130 
        establishes  standards for reporting and display of comprehensive 
        income and its  components in a full set of general purpose financial 
        statements.  Comprehensive income is defined as the change in equity 
        in a business  enterprise during a period from transactions and other 
        events and  circumstances from nonowner sources. SFAS No. 131 
        requires publicly-held  companies to report financial and other 
        information about key revenue-producing segments of the entity for 
        which such information is available and is utilized by the chief 
        operating decision maker.  Specific information to be reported for 
        individual segments includes  profit or loss, certain revenue and 
        expense items and total assets. The  impact of adopting SFAS No. 130 
        and SFAS No. 131, both effective for the  Company in 1998, has not 
        yet been determined.  

        In October 1997, the American Institute of Certified Public 
        Accountants issued State of Position 97-2 ("SOP 97-2"), SOFTWARE 
        REVENUE  RECOGNITION. This statement establishes requirements for 
        revenue  recognition for software companies for fiscal years 
        beginning after  December 15, 1997. The Company is currently 
        evaluating the impact of SOP  97-2 and has not determined the result, 
        if any, on the Company's  financial position, results of operations 
        or cash flows.  

        The Company has adopted the provisions of SFAS No. 128, EARNINGS PER 
        SHARE, effective December 31, 1997. SFAS No. 128 requires the  
        presentation of basic and diluted earnings per share. Basic EPS is  
        computed by dividing income available to common stockholders by the  
        weighted average number of common shares outstanding for the period.  
        Diluted EPS is computed giving effect to all dilutive potential 
        common  shares that were outstanding during the period. Dilutive 
        potential  common shares consist of the incremental common shares 
        issuable upon the  conversion of convertible preferred stock (using 
        the "if converted")  method) and exercise of stock options and 
        warrants for all periods. All  prior period earnings per share 
        amounts have been restated to comply  with SFAS No. 128.  

     RECLASSIFICATIONS 

        Certain reclassifications have been made to the prior year financial 
        statements to conform to the current year presentation.  



                                       F-10

<PAGE>

                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          
               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
3.   STATEMENTS OF CASH FLOWS: 

        Non-cash investing and financing activities for the years ended 
        December 31, 1995, 1996 and 1997 are as follows:  
  
<TABLE>
<CAPTION>

                                                        1995        1996         1997
                                                        ----        ----         ----
                                                           (DOLLARS IN THOUSANDS)
<S>                                                     <C>         <C>          <C>

Issuance of stock in connection with acquisition........  $  -       $1,088        $  -

</TABLE>

         Cash payments for interest and income taxes for the years ended 
         December 31, 1995, 1996 and 1997 are as follows:

<TABLE>
<CAPTION>
                                                   1995        1996         1997
                                                   ----        ----         ----
                                                      (DOLLARS IN THOUSANDS)   
       <S>                                         <C>         <C>          <C>
        Interest ................................  $ 13         $ 7        $  4
        Income taxes.............................    506           -         229

</TABLE>

4.   INVESTMENTS: 

        Marketable  securities at December 31, 1996 and 1997 consist of 
        obligations of the U.S. Government and its agencies and are 
        summarized   as follows:  

<TABLE>
<CAPTION>
    
                                                         1996        1997
                                                         ----        ----
                                                       (DOLLARS IN THOUSANDS)
       <S>                                             <C>          <C> 
        Cost.........................................  $19,936      $8,767
        Gross unrealized gains.......................       57          31
        Gross unrealized losses......................      (36)        (19)
                                                       -------      ------
             Estimated fair value....................  $19,957      $8,779
                                                       -------      ------
                                                       -------      ------
</TABLE>



                                       F-11

<PAGE>

5.   INVENTORY: 

        Inventory at December 31, 1996 and 1997 consists of the following:

<TABLE>
<CAPTION>
                                                          1996        1997
                                                          ----        ---- 
                                                        (DOLLARS IN THOUSANDS)
       <S>                                             <C>          <C> 
        Raw materials................................   $4,211       $3,419
        Work-in-process..............................    2,558        2,223
        Finished goods...............................    1,063          787
                                                        ------       ------
                                                         7,832        6,429
        Less inventory reserve.......................     (469)        (570)
                                                        ------       ------
                                                        $7,363       $5,859
                                                        ------       ------
                                                        ------       ------
</TABLE>



                                       F-12

<PAGE>


                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
6.   PROPERTY AND EQUIPMENT: 

        Property and equipment at December 31, 1996 and 1997 consists of the
        following:  

<TABLE>
<CAPTION>
                                                            1996              1997 
                                                             ----              ---- 
                                                            (DOLLARS IN THOUSANDS)
         <S>                                                <C>             <C>
         Computers........................................   $  4,254        $ 5,655
         Machinery, furniture and equipment...............      3,614          4,782
         Purchased computer software......................        894          1,371
         Leasehold improvements...........................        766            911
                                                             --------        -------
                                                                9,528         12,719
         Less accumulated depreciation and amortization...     (4,592)        (6,554)
                                                             --------        -------
                                                             $  4,936        $ 6,165
                                                             --------        -------
                                                             --------        -------
</TABLE>

        Property and equipment acquired under capital leases totaled 
        approximately $216,000 at December 31, 1996 and 1997. Accumulated  
        amortization related to assets under capital leases totaled  
        approximately $106,000 and $140,000 as of December 31, 1996 and 1997  
        respectively.  

7.     INTANGIBLE ASSETS: 

        Intangible assets at December 31,1996 and 1997 consist of the following:

<TABLE>
<CAPTION>
                                                            1996           1997
                                                            ----           ----
                                                            (DOLLARS IN THOUSANDS)
                <S>                                          <C>          <C>
                Goodwill and know-how......................  $2,588       $ 3,619
                Purchased technology, customer contracts...     337           337
                License agreement..........................     350           350
                                                             ------       -------
                                                              3,275         4,306
              Less accumulated amortization................    (452)       (1,484)
                                                             ------       -------
                                                             $2,823        $2,822
                                                             ------       -------
                                                             ------       -------

</TABLE>


                                       F-13

<PAGE>


                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
 8.     ACCRUED EXPENSES: 

        Accrued expenses at December 31, 1996 and 1997 consist of the following:
<TABLE>
<CAPTION>
                                                   1996                1997   
                                                   ----                ----   
                                                    (DOLLARS IN THOUSANDS)   
        <S>                                      <C>                  <C>
        Accrued payroll and related costs        $  443               $  902   
        Income taxes                                444                  388   
        Accrued vacation                            431                  583   
        Other                                       173                  973   
                                                 ------               ------   
                                                 $1,491               $2,846   
                                                 ------               ------   
                                                 ------               ------   
</TABLE>

 9.     COMMITMENTS AND CONTINGENCY: 

        LEASES 

     The Company leases office space and equipment under operating leases.
Certain of these leases include renewal or purchase options. Rent  expense
related to these leases was approximately $386,000, $613,000 and  $673,000 for
the years ended December 31, 1995, 1996 and 1997,  respectively.  

     The Company also leases certain property and equipment under capital
     leases.  
     
 Minimum commitments under these leases are as follows: 
<TABLE>
<CAPTION>
                                                     OPERATING        CAPITAL   
   YEAR ENDING DECEMBER 31,                            LEASES          LEASE   
  ------------------------                           ---------        -------   
                                                      (DOLLARS IN THOUSANDS)   
<S>                                                    <C>             <C>
        1998                                           $1,006          $ 20   
        1999                                            1,297            16   
        2000                                              980            -   
        2001                                            1,004            -   
        2002                                            1,034            -   
        Thereafter                                      1,127            -   
                                                       ------          ----   
           Total minimum lease payments                $6,448            36   
                                                       ------   
                                                       ------   
           Less amounts representing interest                            (3)   
                                                                       ----   
           Obligations under capital leases                              33   
             Less current portion                                       (18)   
                                                                       ----   
                                                                       $ 15   
                                                                       ----   
                                                                       ----   
</TABLE>


                                      F-14

<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
                                          
 9.     COMMITMENTS AND CONTINGENCY: 

        PURCHASE COMMITMENTS 

           At December 31, 1996 and 1997, the Company has open purchase 
           commitments of approximately $3,731,000 and $4,413,000
           respectively, which include approximately $2,264,000 and 
           $1,938,000 of cancelable purchase ocmmitments.  
     
        LEGAL PROCEEDING 

           In March 1995, a class action lawsuit was filed against the 
           Company and two of its officers, one of whom is also a director of 
           the Company, in  the U.S. District Court for the Southern District 
           of Southern  California. The suit alleged violations of Section 
           10(b) and Rule 10b-5  of the Securities Exchange Act of 1934, as 
           amended (the "Act"), arising  out of alleged misrepresentations 
           and omissions made by the Company and  the named officers. The 
           suit also alleged violation of Section 20(a) of  the Act arising 
           out of alleged "control" of the Company by the officer  
           defendants. The suit was brought on behalf of purchasers of the  
           Company's securities during the period October 10, 1994 through 
           March  29, 1995, and sought unspecified damages. In December 1995, 
           the Company  entered into a settlement agreement pursuant to which 
           all claims were  dismissed with prejudice. The total settlement 
           amount was approximately  $1,500,000, of which the Company paid 
           approximately $446,000 with the  remaining amount paid by the 
           Company's Directors' and Officers'  liability insurance carriers. 
           Obligations of the Company with respect to  this matter were 
           provided for in the financial statements during the  year ended 
           December 31, 1995 and paid during the year ended December 31,  
           1996.  

10.     SHAREHOLDERS' EQUITY: 

        STOCK COMPENSATION PLANS 

           The Company applies Accounting Principles Board Opinion No. 25, 
           ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and related 
           interpretations in  accounting for its stock-based compensation 
           plans. Accordingly, no  compensation cost has been recognized for 
           its fixed stock option plans  and its stock purchase plan. Had 
           compensation costs for the Company's  stock-based compensation 
           plans been determined based on the fair value  at the grant dates 
           for awards in 1995, 1996 and 1997 under those plans  consistent 
           with the methods of SFAS No. 123, the Company's net income  (loss) 
           and earnings per share would have been reduced to the pro forma  
           amounts indicated below:  


                                      F-15

<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
10.     SHAREHOLDERS' EQUITY, CONTINUED: 

<TABLE>
<CAPTION>
                                                           1995        1996         1997   
                                                           ----        ----         ----   
                                                                (DOLLARS IN THOUSANDS)   
                <S>                                       <C>        <C>          <C>
                Net income (loss):   
                      As reported                         $ 759      $(7,120)     $(4,283)   
                      Pro forma                            (195)      (8,352)      (6,830)   
   
                Net income (loss) per common share:   
                      As reported, basic                   $.06        $(.59)       $(.34)   
                      As reported, diluted                  .06         (.59)        (.34)   
                      Pro forma, basic and diluted         (.02)        (.69)        (.55)   
</TABLE>


        FIXED STOCK OPTION PLANS 

           In May 1996, the Company adopted the 1996 Non-Qualified Stock 
           Option Plan (the "1996 Plan"). The 1996 Plan does not affect the 
           1994 Plan  described below. Under the 1996 Plan, the Company is 
           authorized to issue 650,000 shares of common stock. The 1996 Plan 
           is intended to promote the  interests of the Company or its 
           parents or subsidiary corporations.  Under the 1996 Plan, eligible 
           individuals may be granted options to  purchase shares of the 
           Company's common stock at not less than 85% of  the fair market 
           value of such shares on the date of grant. Such options  shall be 
           exercisable in one or more installments as specified in the  
           Notice of Grant and have a maximum term of 10 years. Persons 
           eligible to  receive stock options under the 1996 Plan are key 
           employees of the  Company other than officers who are responsible 
           for the growth and  financial success of the Company and 
           consultants and other independent  contractors who provide 
           valuable services to the Company.

           In February 1994, the Company adopted the 1994 Stock Option/Stock 
           Issuance Plan (the "1994 Plan"). The 1994 Plan supersedes and  
           consolidates the 1988 Stock Option Plan and Restricted Stock 
           Purchase  Plan (the "1988 Plan"). Outstanding stock options and 
           unvested share  issuances under the 1988 Plan were incorporated 
           into and assumed in the  1994 Plan. In May of 1996, the Board of 
           Directors received shareholder  approval to increase the 
           authorized shares to 3,800,000 under the 1994  Plan. The 1994 Plan 
           is divided into three separate components: the  Discretionary 
           Option Grant Program (the "Discretionary Program"); the  Automatic 
           Option Grant Program (the "Automatic Program") and the Stock  
           Issuance Program (the "Issuance Program"). Under the Discretionary 
           Program, eligible individuals may be granted options to purchase 
           shares  of the Company's stock at not less than 85% of the fair 
           market value of  such shares on the date of grant. Under the 
           Automatic Program,  non-employee Directors will automatically be 
           granted options to purchase  common stock at 100% of the fair 
           market value on the grant date. Under  the Issuance

                                      F-16

<PAGE>


                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
10.     SHAREHOLDERS' EQUITY, CONTINUED: 

           Program, eligible individuals may be allowed to purchase shares of 
           the Company's common stock at discounts from the fair market value 
           of such shares of up to 15%. Such shares may be issued as 
           fully-vested shares or as shares to vest over time and have a 
           maximum term of 10 years (5 years for options granted to a 10% 
           shareholder). Persons eligible to receive stock issuances under 
           the Issuance Program and/or option grants under  the Discretionary 
           Program are officers and other key employees of the  Company and 
           certain consultants or other independent contractors, as  defined 
           in the plan. The individuals eligible to receive option grants  
           under the Automatic Program are individuals who are elected, 
           re-elected  or appointed as non-employee Board members.  

           The fair value of each option grant is estimated on the date of 
           grant using the Black-Scholes option-pricing model with the 
           following  weighted-average assumptions used for grants in 1996 
           and 1997: no  dividend yield; expected volatility; risk-free 
           interest rates on or  about the date of grant represented by the 
           interest rate on U.S.  Treasury Bills with a term of maturity 
           equal to the vesting period of  the options, and expected lives of 
           5 years.

           The following table summarizes stock option transactions for each 
of the three years in the period ended December 31, 1997:  

<TABLE>
<CAPTION>
                                                        1994 AND 1996 PLANS                     OTHER   
                                                     -------------------------           -------------------   
                                                                      WEIGHTED                      WEIGHTED   
                                                                       AVERAGE                       AVERAGE   
                                                                      EXERCISE                      EXERCISE   
                                                     SHARES             PRICE             SHARES      PRICE   
                                                     ------             -----             ------      -----   
              <S>                                   <C>               <C>                  <C>          <C>
              Outstanding at   
                 January 1, 1995                    1,439,744          $4.22                27,587      $.14   
                     Granted                          737,025         $12.30                   -          -   
                     Exercised                       (205,068)          $.35               (10,500)     $.14   
                     Canceled                        (300,392)        $18.30                   -          -   
                                                    ---------                              -------   
              Outstanding at   
                 December 31, 1995                  1,671,309          $5.63                17,087      $.14   
                     Granted                          874,887          $9.01                   -         -   
                     Exercised                       (149,261)          $.77                   -         -   
                     Canceled                        (598,732)        $18.30                   -         -   
                                                    ---------                              -------   
              Outstanding at   
                 December 31, 1996                  1,798,203          $5.54                17,087      $.14   
                     Granted                        1,422,039          $6.58                   -          -   
                     Exercised                       (252,313)         $6.34                   -          -   
                     Canceled                        (317,071)         $7.65                   -   
                                                    ---------                              -------   
               Outstanding at   
                 December 31, 1997                  2,650,858          $6.20                17,087      $.14   
                                                    ---------                              -------   
                                                    ---------                              -------   
</TABLE>

                                      F-17


<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
10.     SHAREHOLDERS' EQUITY, CONTINUED: 

           The range of exercise prices of stock options outstanding at 
           December 31, 1997 is as follows:  
     
<TABLE>
<CAPTION>
                                          OPTIONS OUTSTANDING                                  OPTIONS EXERCISABLE   
                          -----------------------------------------------------           --------------------------   
                                             WEIGHTED                 WEIGHTED                              WEIGHTED   
          RANGE OF                           AVERAGE                  AVERAGE                               AVERAGE   
          EXERCISE          NUMBER           REMAINING                EXERCISE                NUMBER        EXERCISE   
           PRICES         OUTSTANDING   CONTRACTUAL LIFE               PRICE               EXERCISABLE       PRICE   
           ------         -----------   ----------------               -----               -----------      --------   
        <S>                 <C>               <C>                     <C>                   <C>              <C>        
        $.14 - $1.05        544,785           4.60                    $  .30                544,785          $   .30   
        $2.80 - $6.44       568,613           9.40                      6.06                 30,707             5.70   
        $6.50 - $6.63       320,543           8.56                      6.51                 65,811             6.51   
        $6.88               533,721           9.12                      6.88                143,244             6.88   
        $7.00 - $16.13      700,283           8.26                     10.09                417,912            10.25   
                          ---------           ----                    ------              ---------           ------   
        $.14 - $16.13     2,667,945           7.97                    $ 6.16              1,202,459           $ 5.02   
                          ---------           ----                    ------              ---------           ------   
                          ---------           ----                    ------              ---------           ------   
</TABLE>


           At December 31, 1996 and 1997,  1,191,381 and 339,959 shares,      
           respectively, are available for granting of options under the 1994 
           and 1996 Plans.  
     
        STOCK PURCHASE PLAN 

           The Amended 1994 Employee Stock Purchase Plan, originally adopted 
           in February 1994 (the "Stock Purchase Plan"), authorizes the 
           Company to issue up to 300,000 shares of common stock to 
           participating employees. The Stock Purchase Plan is intended to 
           provide qualifying employees with the opportunity to acquire an 
           interest in the Company by accumulating  amounts for the 
           employees' account through payroll deductions and the periodic 
           application of such amounts to the purchase of shares of the 
           Company's common stock. Under the terms of the Stock Purchase 
           Plan, qualified employees can choose each year to have up to 15% 
           of their annual base earnings withheld to purchase the Company's 
           common stock. The purchase price of the stock will be equal to 85% 
           of the lower fairmarket value of the common stock on (i) the 
           commencement date of the offering period or (ii) the purchase 
           date. The Stock Purchase Plan terminates on December 31, 2003. 
           Under the Stock Purchase Plan, the Company sold 56,857 and 97,413 
           shares to employees in 1996 and 1997, respectively. There are 
           31,102 shares of common stock available for purchase under the 
           Stock Purchase Plan at December 31, 1997.  

           In order to disclose the pro forma net income and earnings per 
           share as required by SFAS No. 123 (see Stock Compensation Plans 
           above), the fair value of the employees' purchase rights is 
           estimated using the  Black-Scholes model with the following 
           assumptions for 1996 and 1997: no dividend yield, expected 
           volatility of 69.76%; risk-free interest rates  on the date of 
           grant represented by the interest rate on U.S. treasury  bills 
           with a term of maturity equal to the period from the subscription  
           date to the purchase date. The weighted-average fair value of 
           those  purchase rights granted in 1996 and 1997 was $9.56 and 
           $6.58,  respectively.  

                                      F-18


<PAGE>


                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
11. INCOME TAXES: 

      The provision for income taxes for the years ended December 31, 1996 and
      1997 consists of current taxes for foreign operations.  
      
      Differences between the statutory rate and the effective tax rate for the
      year ended December 31, 1995, 1996 and 1997 are as follows:  

<TABLE>
<CAPTION>
                                                              1995        1996        1997 
                                                              ----        ----        ---- 
<S>                                                           <C>        <C>         <C>
     Taxes at federal statutory rate                          34.0%      (34.0%)     (34.0%)
     Foreign income taxes                                      -  %        1.8%        3.2%
     Net operating loss carryforwards and 
       research and development tax credits 
       (utilized) not utilized                               (33.0%)      33.0%       33.0%
     Change in valuation allowance                              - %        -  %        -  %
     Other                                                    (1.0%)       1.0%        1.0%
                                                              -----       -----       ----- 
           Provision for income taxes                          -  %        1.8%        3.2%
                                                              -----       -----       ----- 
                                                              -----       -----       ----- 
</TABLE>


     The components of the deferred tax assets at December 31, 1996 and 1997 are
     as follows:  

<TABLE>
<CAPTION>
                                                                1996          1997
                                                                ----          ----
                                                              (DOLLARS IN THOUSANDS)

<S>                                                            <C>            <C>
     Allowances and reserves                                   $   773       $   780
     Vacation accrual                                              146           178
     Capitalized research and development                        2,211         2,577
     Net operating loss carryforwards                            4,774         5,908
     Tax credits                                                 1,429         1,991
     Accelerated depreciation                                     (252)         (287)
     Other                                                          10            10
                                                               -------        -------
           Total gross deferred tax asset                        9,091        11,157

     Less valuation allowance                                   (7,589)       (9,655)
                                                               -------       -------
           Net deferred tax asset                              $ 1,502       $ 1,502
                                                               -------       -------
                                                               -------       -------
</TABLE>

     The Company has recorded a net deferred tax asset of $1,502,000 as of
     December 31, 1997 and 1996. Realizability is dependent on generating 
     sufficient taxable income prior to expiration of the net operating loss 
     carryforwards. Although realization is not assured, management believes it
     is more likely than not that the net deferred tax asset will be realized.
     The amount of the deferred tax asset considered realizable, however, could
     be reduced in the near term if estimates of future  taxable income during
     the carryforward period are reduced.


                                        F-19



<PAGE>


                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 

11. INCOME TAXES, CONTINUED: 

      At December 31, 1997, the Company has net operating loss carryforwards for
      federal income tax purposes of approximately $15,644,000, of which 
      $5,378,000 is attributable to disqualifying dispositions of stock options.
      The Company also has net operating loss carryforwards for California tax
      purposes of approximately $7,561,000 at December 31, 1997, of which
      $2,724,000 is attributable to disqualifying dispositions of stock options.
      The amount attributable to the disposition of stock options will not
      impact the Company's effective tax rate in future periods as the impact
      will be reflected as a component of equity when recognized.

      The Company also has research and development tax credit carryforwards of
      approximately $1,620,000 for federal and $371,000 for California tax 
      purposes at December 31, 1997. These carryforwards will begin expiring, if
      unused, in 2003.
      
      The Internal Revenue Code (the "Code") imposes limits on the availability
      of net operating loss carryforwards and certain tax credits  that arose
      prior to certain cumulative changes in a corporation's  ownership 
      resulting in a change of control of the Company. The Company's use of 
      approximately $1,166,000 of its federal net operating loss carryforwards
      and $408,000 of its federal and $105,000 of its California tax credit 
      carryforwards are significantly limited because the Company underwent 
      "ownership-changes" in January 1989 and March 1991. In each  year 
      following the change, the Company will be able to offset taxable income 
      by a limited amount of the pre-ownership change carryforwards.  This 
      limitation is determined by the value of the Company immediately prior 
      to the ownership change multiplied by the long-term tax-exempt  rate. 
      Net operating losses and tax credits that are unavailable in any year 
      as a consequence of this limitation may be carried forward for future 
      use subject to certain restrictions.  
     
12. EMPLOYEE BENEFITS:

      The Company has a 401(k) defined contribution plan available to all
      employees who have been with the Company for more than one month. 
      Employees may contribute up to 15% of their salary each year and the 
      Company may elect to make a discretionary contribution to the plan once a
      year. All plan participants who are employed at the end of the plan year
      and have completed 1,000 hours of service in that plan year are eligible
      to receive a share of the employer contribution. Participant's rights to
      the employer contributions vest 25% per year of service with the
      participant being fully vested at the end of the fourth year of service.
      The Company did not make a discretionary contribution in 1995,  1996 or
      1997.


                                       F-20

<PAGE>
                    APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

               NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 

12. EMPLOYEE BENEFITS, CONTINUED: 

      In 1995, the Company adopted a profit sharing plan available to all
      employees. The plan provides financial benefits to employees when the 
      Company exceeds certain targeted objectives. The Compensation Committee of
      the Board of Directors annually determines the maximum amount that is 
      allocated to the plan. Employees are eligible to participate in the plan 
      at the start of the quarter following their employment at the Company. The
      Company allocated $-0-, $-0- and approximately $418,000 in 1995,  1996 and
      1997, respectively.  
     
13. CONCENTRATION OF CREDIT RISK: 

      Financial instruments which potentially subject the Company to
      concentrations of credit risk consist principally of cash and cash 
      equivalents, investments and trade receivables.  
      
      The Company has approximately $4,908,000 of cash and cash equivalents in
      excess of FDIC insured limits at two financial institutions at December 
      31, 1997. The Company has not experienced any losses on its cash and cash
      equivalents.  
      
      All of the Company's investments, all of which mature in 1998, are in
      obligations of the U.S. Government and its agencies at December 31, 1997.
      
      At December 31, 1996 and 1997, the Company's trade receivables are
      concentrated with "Regional Bell Operating Companies" and independent 
      phone companies and suppliers or affiliated companies in the United 
      States, all of which management believes are large companies with 
      substantial financial resources. Sales are typically made on credit, with
      terms that vary depending upon the customer and the nature of the product.
      The Company does not hold collateral to secure payment. Although the
      Company maintains a reserve for uncollectible receivables that it believes
      to be adequate, a payment default on a significant sale or customer
      receivable could materially and adversely affect its operating results and
      financial condition.
      
      Sales to major customers for each year are as follows (% of revenue): 

<TABLE>
<CAPTION>
                                 1995        1996       1997
                                 ----        ----       ----
<S>                              <C>         <C>        <C>
        Nynex                     18%         23%         8%
        Bell South                13%          7%        17%
        US West                   45%         31%         4%
        Ameritech                 19%          9%         3%
        Nortel                     -          15%        20%
        MCI                        -           -         18%
</TABLE>


                                        F-21
<PAGE>


                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY
                                          
                                          

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
13.     CONCENTRATION OF CREDIT RISK, CONTINUED:

           Sales to an affiliate of a shareholder during the years ended 
           December 31, 1995, 1996 and 1997 were approximately $3,836,000, 
           $2,263,000 and  $922,000 respectively, of which approximately 
           $140,000 and $342,800 are  included in accounts receivable at 
           December 31, 1996 and 1997,  respectively.  
     
14.     ACQUISITIONS: 

           In February 1996, the Company acquired certain assets of Applied 
           Computing Devices, Inc. ("ACD"), a company that developed and 
           marketed  operations systems software used primarily by 
           independent telephone  companies to manage certain functions in 
           their networks. The customer  set and products of ACD complement 
           those of the Company and the Company  intends to continue to 
           market and enhance these products. The Company  acquired the 
           assets for $1,700,000 in cash and incurred approximately  $200,000 
           in related costs. The assets were acquired at an auction held  in 
           Federal Bankruptcy Court, Southern District of Indiana. The  
           transaction, which was accounted for as a purchase, included the  
           acquisition of in-process research and development valued at  
           approximately $1,200,000, property and equipment valued at 
           approximately  $377,000 and purchased technology valued at 
           approximately $337,000. The  Company recorded a one-time charge in 
           the first quarter of 1996 for the  $1,200,000 associated with 
           purchased research and development costs.  

           In July 1996, the Company acquired certain assets of MPR Teltech, 
           a subsidiary of BC TELCOM, Inc. The assets acquired were part of 
           MPR Teltech's operating unit commonly known as the Special 
           Services Network division ("SSN"). The Company and its Canadian 
           subsidiary, ADA-Canada, acquired the assets for $4,200,000 million 
           in cash and 150,000 shares of the Company's common stock, and 
           incurred approximately $200,000 in  related costs. SSN was an 
           operations systems software development group  with expertise in 
           development of network management systems for public carriers. SSN 
           developed operations systems software primarily for  Northern 
           Telecom ("Nortel"). SSN has become part of ADA-Canada and will  
           develop network performance management operations systems software 
           products for the Company and its customers, including Nortel. The 
           transaction, which was accounted for as a purchase, included the  
           acquisition of in-process research and development valued at  
           approximately $2,100,000, property and equipment valued at 
           approximately  $900,000 and goodwill and know-how valued at 
           approximately $2,588,000.  The Company recorded a one-time charge 
           in the third quarter of 1996 for  the $2,100,000 associated with 
           purchased research and development costs.

                                      F-22

<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 
                                          

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
14.     ACQUISITIONS, CONTINUED: 

           In June 1997, the Company acquired an exclusive worldwide license 
           to Nortel's Digital Support System II(TM) ("DSSII") operations 
           system software product, subject to certain residual rights 
           retained by Nortel. The Company acquired the license and certain 
           assets related to the DSSII product for an amount of $3,100,000, 
           $2,232,000 of which was paid in   cash and the remainder of which 
           is payable in cash and/or stock at the Company's option on January 
           15, 1998. The Company recorded a charge of  approximately 
           $1,578,000 for purchased research and development  associated with 
           the acquisition of the license and the assets. As part   of the 
           transaction, the Company also issued Nortel a warrant to purchase 
           150,000 shares of the Company common stock at an exercise price of 
           $12  per share. The warrant has a three year term.

           The following condensed pro forma results of operations 
           information has been presented to give effect to the acquisitions 
           as if such  transactions had occurred at the beginning of each of 
           the periods  presented. The historical results of operations have 
           been adjusted to  reflect additional depreciation and amortization 
           expense based upon the  value allocated to assets acquired in the 
           purchases. The pro forma  results of operations information is 
           presented for information purposes  only and is not necessarily 
           indicative of the operating results that  would have occurred had 
           the acquisitions been consummated as of the  beginning of the 
           periods presented, nor is it necessarily indicative of  future 
           operating results.
<TABLE>
<CAPTION>
                  CONDENSED PRO FORMA RESULTS OF OPERATIONS
                 (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA)
                                (UNAUDITED)

                                                      YEARS ENDED DECEMBER 31,   
                                                      ------------------------   
                                                          1996          1997   
                                                          ----          ----   
      <S>                                              <C>          <C>
      Revenue ......................................   $29,660      $34,050   
      Net loss .....................................   ( 7,474)      (4,283)   
      Net loss per share, basic and diluted.........      (.61)        (.34)   
      Weighted average shares used in computation...    12,165       12,605   
</TABLE>

           Sales to Canadian customers, generated from both the Company's United
States and Canadian operations in fiscal 1996 and 1997 were  approximately
$4,351,000 and $9,861,000, respectively. The identifiable  assets of the
Company's operations at December 31, 1996 and 1997 were  approximately
$970,000 and $1,997,000, respectively.

                                      F-23

<PAGE>

                 APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY 

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 
                                          
15.     EARNINGS PER SHARE ("EPS") DISCLOSURES: 

           In accordance with the disclosure requirements of SFAS No. 128, a 
           reconciliation of the numerator and denominator of basic and 
           diluted EPS is provided as follows (dollars in thousands, except 
           per share amounts).


<TABLE>
                                                      YEAR ENDED DECEMBER 31   
                                                      ----------------------   
                                               1995        1996         1997   
                                               ----        ----         ----   
<S>                                        <C>          <C>          <C>
Numerator - basic and diluted EPS:   
 Net income (loss).......................  $   759      $(7,120)     $(4,283)  
Denominator - basic and diluted EPS:
 Weighted average common stock   
    outstanding..........................   11,899       12,255       12,605   
                                           -------      -------      -------   
Basic and diluted earnings per share.....     $.06        $(.59)       $(.34)   
                                             ----        -----        ------   
                                             ----        -----        ------   
</TABLE>

                                     F-24

<PAGE>

                                 SCHEDULE II
                                          

                  APPLIED DIGITAL ACCESS, INC. AND SUBSIDIARY
                                          
<TABLE>
<CAPTION>
     VALUATION AND QUALIFYING ACCOUNTS FOR THE YEARS ENDED DECEMBER 31, 1995,
     1996 AND 1997


                                                                 BALANCE AT
                                                                  BEGINNING                                             BALANCE AT
              DESCRIPTION                          YEAR            OF YEAR         ADDITIONS       DEDUCTIONS          END OF YEAR
              -----------                          ----            -------         ---------       ----------          -----------
<S>                                                <C>           <C>               <C>             <C>                 <C>        
Allowance for doubtful accounts                    1995          $  50,000         $    -          $     -             $  50,000
                                                   1996             50,000              -                -                50,000
                                                   1997             50,000              -                -                50,000
   
Inventory reserve                                  1995            434,617          150,000          (47,055)            537,562
                                                   1996            537,562              -            (68,092)            469,470
                                                   1997            469,470          312,496         (211,966)            570,000
</TABLE>
                                      F-25