<PAGE>   1
================================================================================

                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                 ---------------

                                    FORM 10-K

(Mark One)
     X       ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
    ---      EXCHANGE ACT OF 1934

                   FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999

                                       OR

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

                           COMMISSION FILE NO. 0-23686

                            PC SERVICE SOURCE, INC.
             (Exact name of registrant as specified in its charter)

              DELAWARE                                    52-1703687
  (State or other jurisdiction of           (I.R.S. employer identification no.)
   incorporation or organization)

                              2350 Valley View Lane
                               Dallas, Texas 75234
               (Address of principal executive offices) (Zip Code)

       Registrant's telephone number, including area code: (972) 481-4000

        Securities registered pursuant to Section 12(b) of the Act: NONE

           Securities Registered Pursuant to Section 12(g) of the Act:

COMMON STOCK, PAR VALUE $.01 PER SHARE                       5,303,288
           (Title of class)                        (Number of Shares Outstanding
                                                       as of March 21, 2000)

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. [ ]

The aggregate market value of voting stock held by nonaffiliates of the
registrant is approximately $5,190,108. This amount was calculated by reducing
the total number of shares of the registrant's common stock outstanding by the
total number of shares of common stock held by officers and directors, and
stockholders owning in excess of 5% of the registrant's common stock, and
multiplying the remainder by the average of the bid and asked price for the
registrant's common stock on March 21, 2000, as reported on the National
Association of Securities Dealers, Inc. Automated Quotation System. The
information provided shall in no way be construed as an admission that any
officer, director, or more than 5% stockholder of the registrant may be deemed
an affiliate of the registrant or that such person is the beneficial owner of
the shares reported as being held by such person, and any such inference is
hereby disclaimed.

                      DOCUMENTS INCORPORATED BY REFERENCE:

     Portions of the Registrant's definitive proxy statement concerning the 2000
Annual Meeting of Stockholders to be filed pursuant to Regulation 14A are
incorporated by reference into Part III of this report. The Proxy Statement will
be filed with the Commission not later than 120 days after the Registrant's
fiscal year ended December 31, 1999.

================================================================================

<PAGE>   2

                                     PART I

ITEM 1. BUSINESS.

GENERAL

     PC Service Source, Inc. ("PCSS," "we," "us," "our," or "our company") is
one of the largest providers of service logistics outsourcing and support
services to the personal computer ("PC") industry. We provide these support
services for leading computer manufacturers through three divisions, our OEM,
Service Provider and iService divisions. Our original equipment manufacturer
(OEM) division provides OEMs and Original Development Manufacturers (ODM) with
parts logistics, materials management and rapid turnaround desktop and notebook
repair and component repair services. Our Service Provider division provides
spare parts distribution, order logistics, parts exchange logistics, parts
lifecycle management and inventory risk management to PC service providers such
as independent service organizations, OEMs' service operations and PC resellers
(collectively, "Service Providers"). Finally, our iService division is focused
on leveraging the significant investments we have made in our PC Parts Net and
PC Warranty Information Network (PC WIN) proprietary technology by developing
various Internet service solutions. We believe we can focus on market
opportunities by operating our business through these three divisions.

     The OEM division is uniquely and specifically focused on the business of
providing vertically integrated service logistics outsourcing on behalf of OEMs
and ODMs for both warranty and post-warranty systems. The ability for an OEM or
an ODM to outsource the post-sales warranty and post-warranty support functions
allows them to direct the dollars that would otherwise have been spent on
inventory and a service support infrastructure toward the development, marketing
and sales of new products. Our comprehensive and vertically integrated offerings
provide OEMs and ODMs with a single solution for service logistics outsourcing.
Since OEMs have started to transfer their warranty support responsibilities to
the ODMs, we have tailored our offerings to meet the requirements of both the
OEMs and ODMs. We share their common objectives of providing low cost services
and high customer satisfaction.

     The Service Provider division focuses on the distribution of parts used in
the repair of PCs in North America. Service Providers purchase replacement parts
for the service and repair of PCs and peripherals. These parts may be purchased
directly from OEMs or from any of the hundreds of independent distributors, the
largest of which is us. These parts include printer parts, logic boards,
controllers, disk drives, monitors, memory boards, cables and related hardware.

     The iService division was created in the fourth quarter of 1999 and is
focused on the development of Internet based systems to process and submit
orders for spare parts and warranty claim processing functions utilizing our
electronic commerce engine PC Parts Net and PC WIN, the industry's only
real-time, Internet based system for processing multiple vendor warranty
transactions. iService may be expanded to other service industries.

     Our principal executive offices and mailing address are 2350 Valley View
Lane, Dallas, Texas 75234, and our telephone number is (972) 481-4000. We were
incorporated in Delaware in January 1990. PCSS Repair


                                      -1-
<PAGE>   3

Services, our wholly-owned subsidiary, was incorporated in Texas in June 1995.
PCSS Repair Services was originally formed as an eighty-five percent (85%) owned
subsidiary of PCSS. The balance of PCSS Repair Services was owned by members of
management of PCSS Repair Services. In 1998, we repurchased the minority
interests held by management of PCSS Repair Services. Hi-Tek Services, Inc., a
wholly-owned subsidiary of PCSS Repair Services, was incorporated in California
in April 1989. iService.com, Inc., a wholly-owned subsidiary of PCSS, was
incorporated in Delaware in December 1999.

     Financial information for each of our three divisions is set forth in note
12 to our consolidated financial statements which are attached to this report
and are incorporated herein by reference for all purposes. Because the financial
information for our iService division is insignificant as of the date of this
report, certain financial information for the iService division is included with
the financial information for the Service Provider division.

OPERATIONS

     We conduct the parts distribution and processing business of our Service
Provider and OEM divisions principally from our 155,200 square foot and our
109,116 square foot distribution centers at our Alliance Airport facility
located in the Dallas/Fort Worth Metroplex. Recognizing the immediate demands of
our service customers, we established an automated and integrated order
processing and distribution system which allows us to provide efficient and
accurate delivery of products on a next day basis. We also established a system
of "work cells" for receiving, recording and warehousing daily supply shipments.
All parts maintained in our inventory are bar coded and tracked throughout the
facility through radio frequency scanning equipment that is integrated with our
computer network. Parts are received daily from OEMs and other suppliers, bar
coded and shelved in our warehouse for quick access based on real-time daily
demand.

     In addition, many PC and peripheral replacement parts are remanufactured
from returned goods in need of repair. For example, a part may no longer work
because one of its many components is defective. When a Service Provider
purchases a replacement for a defective part, the defective part ("core") may
often be returned for credit. The core may then be repaired and resold as a
remanufactured part. Service Providers often prefer remanufactured parts because
they have performance specifications equivalent to newly manufactured parts at a
lower cost. This aspect of the PC parts business requires that we distribute new
or remanufactured parts to our customers, collect defective but repairable parts
and then administer the remanufacturing of those parts which are offered for
resale. Therefore, unlike many distribution businesses, products flow to and
from us and our customers, and to and from our suppliers. In addition to new
parts being received and shelved daily, cores are also received daily from
customers, sorted and distributed to our remanufacturing subcontractors,
including our OEM division. Following the remanufacturing of a core, it is bar
coded and replaced in inventory. Our Service Provider division has also created
our own private label brand of remanufactured parts or parts extracted from
whole units which we call CertiParts(TM). Many of our customers prefer a
remanufactured part over a new part because of its low cost and similar
performance specifications. CertiParts was developed to fill this recognized
market demand for reliable, competitively priced parts.

     Under the terms of our OEM outsourcing arrangements, the OEMs re-route
calls from authorized Service Providers, customers and dealers to us for some or
all of the OEM's warranty and non-warranty parts business. In the case of
in-warranty parts, we plan and procure spare


                                      -2-
<PAGE>   4
parts on behalf of the OEM and ship the spare parts to the authorized Service
Provider. Service Providers and other customers of ours make purchases by credit
card, cash on delivery, or, for approved accounts, by open account. Small and
medium volume Service Providers typically call through a regionally specific
toll free phone number to access a team of dedicated account representatives to
place orders for next-day delivery. A larger volume customer typically has a
representative or team of representatives dedicated to its account.

     Utilizing its high capacity Computer Telephony Integrated (CTI) system, our
center automatically routes customer calls, including calls re-routed to us by
an OEM, to the appropriate account representative. Each account representative
has a work station that provides access to our information system through which
the account representative may retrieve detailed information about accounts,
products and the status of all orders. Through the information system's imaging
and direct fax capabilities, the account representative may access exploded-view
diagrams of a majority of parts in inventory from the account representative's
work station and fax the image to the Service Provider to confirm the
identification of the ordered part. Once the order is placed, the account
representative immediately transmits the order to the distribution center where
the part is picked, packed and shipped in accordance with the Service Provider's
request, usually the same day the order is placed.

     Service Providers may also place orders directly over the Internet through
PC SERVICENET(R). PC SERVICENET, located on the Internet at
http://www.pcservice.com/partsnet.htm, provides customers with an Internet
web-based real-time purchasing and ordering system, which enables customers to
place an order electronically, check parts availability and pricing, and the
status of pending orders.

     OEMs are able to manage the information domain aspect of warranty
transactions through PC WIN. PC WIN is a complete electronic platform that
serves as a single, uniform standard for processing and maintaining all
multi-vendor warranty claims. Service Providers also use PC WIN to manage all
phases of their warranty transactions, including the status of spare parts
ordered, claims in-process and labor reimbursement.

SERVICES

     We offer a wide range of value-added service logistics to Service Providers
and OEMs through each of our divisions. These services capabilities, in
combination with our core distribution expertise, effectively allow us to handle
many of the hardware related post-sales support functions for our customers. We
offer these service logistics based on the demands of our customers through
Service Provider alliances and OEM outsourcing arrangements.

     OEM Service Logistics Outsourcing. We seek arrangements with OEMs of PCs
and peripherals to handle a defined portion of the related parts distribution
and warranty processing functions. Under the terms of such an OEM outsourcing
arrangement, the OEM directs some or all of its customers and dealers to us for
some or all of the OEM's warranty and non-warranty parts business. We believe
these arrangements benefit OEMs by reducing infrastructure needs, reducing the
amount of capital committed by the OEM to the non-core segments of its business
and improving customer service and responsiveness. We believe that as a
specialist in managing the key business functions associated with parts
distribution, which includes our expertise in two-way distribution logistics, we
are able to provide parts and related service logistics at lower


                                      -3-
<PAGE>   5
costs and greater reliability than the manufacturers themselves can provide such
services. We have entered into a number of arrangements with leading OEMs for
handling limited functions for those OEMs.

     In November 1998, we entered into our first full service logistics
outsourcing agreement with a large OEM. We were selected to be the exclusive
provider of in-warranty and a provider of post-warranty spare parts support for
this OEM's line of desktop computers. This support encompasses all desktop
models, including parts distribution logistics and warranty transaction
processing, for the OEM's service providers, inventory forecasting and planning,
as well as return-to-vendor repair logistics to meet the OEM's defined service
levels. This partnership represents the first to utilize the full service
logistics outsourcing capabilities offered by us. Although this agreement may be
terminated by either us or the OEM at any time, we entered into this agreement
with the expectation that the agreement will lead to a long-term relationship.

     In June 1999, we became the exclusive provider of both in-warranty and
post-warranty spare parts support for a large OEM's entire product line, which
includes servers, notebooks, and desktops. Under this arrangement, we manage the
planning and procurement of inventory, distribution, return parts testing, and
failure rate reporting functions for the OEM. The materials, planning, and
procurement process includes sample testing of bulk shipments from suppliers, as
well as sample testing outbound shipments of spare parts for quality assurance.
We also provide the OEM's service provider with tracking information for each
spare part shipped by us to assist them with dispatching field technicians.
Although this agreement may be terminated by either us or the OEM on six month's
notice, we entered into this agreement with the expectation that the agreement
will lead to a long-term relationship.

     OEM Repair. In June 1995, we established PCSS Repair Services, a provider
of parts repair outsourcing services, to further enhance the broad array of
service logistics we offer to our OEM customers. We believe that our repair
capabilities provided by our OEM division are an important aspect of the full
range of value-added services we offer to OEMs in an effort to outsource larger
portions of the OEM's service and warranty logistics functions.

     Our OEM division offers an ISO 9002 registered facility built on a
foundation of quality, engineering expertise, velocity and processes. We
currently provide rapid turnaround on desktop and notebook computers,
refurbishment on notebook and desktop computers and printers and component-level
repair on boards (motherboards, memory boards, modem boards, power supply boards
and others). We have entered into notebook repair arrangements with several
leading OEMs. These arrangements may generally be terminated by either party at
any time, but we enter into them with the expectation that these arrangements
will lead to long-term relationships with those parties.

     Service Provider Alliances. Typically, a substantial portion of a Service
Provider's cost structure is attributable to parts inventory ownership and
logistics management for these materials. We offer a range of services through
our Service Provider division which are directed at minimizing this cost burden
of the Service Provider. These support services include inventory management,
parts sourcing, warranty claims administration, vendor returns, management
reporting and inventory liquidation and consignment. Due to the fact that this
type of support generally requires a high level of process integration between
us and the Service Provider, we seek to provide these services through long term
alliances. Under these arrangements, we become the primary source of specified
parts for the Service Provider. The Service Provider benefits from this alliance


                                      -4-
<PAGE>   6
with us because these value-added services decrease the Service Provider's
procurement and inventory carrying costs, improve service and permit the Service
Provider to devote less of its capital to these business functions. We have
entered into Service Provider alliances with several major Service Providers.
See "Business--Customers and Suppliers." Generally, these types of arrangements
may be terminated by either party at any time, but we enter into Service
Provider alliances with the expectation that these arrangements will lead to
long-term relationships or contracts with those parties.

MANAGEMENT INFORMATION SYSTEMS

     We maintain sophisticated information systems to improve efficiency,
process orders, monitor operations, manage inventory risks, offer faster and
higher levels of service, and provide innovative service logistics to OEMs and
Service Providers through each of our divisions. These on-line systems provide
management with information concerning sales, inventory levels, customer
activity and other operations which are essential for us to operate efficiently
and to enable us to offer additional services. We have invested in advanced
telecommunications, voice response equipment, electronic mail and messaging,
automated fax technology, radio frequency scanning, bar-coding and automated
inventory management.

     We maintain a sophisticated call center utilizing an Aspect switch, which
is integrated with our information system. The information system is a Unix
server based Hewlett-Packard 9000 series of computers utilizing an Informix
based system customized to our requirements. The CTI system is an essential
element of the call center's operation, automatically routing customer calls to
the appropriate account representative, providing the account representative
with all account information relevant to the call being answered and monitoring
capabilities which is used by management to improve efficiency and customer
services. We compile and analyze data on, among other things, the amount of time
a customer waits until the customer's call is answered, the accuracy of
information conveyed by account representatives, as well as the status of any
particular shipment. Each account representative has a work station that
provides access to our information system, through which the account
representative may retrieve detailed information about customers, products and
the status of all orders. Through the information system's imaging and direct
fax capabilities, the account representative may access exploded-view diagrams
of a majority of parts in inventory from the account representative's work
station and fax the image to the customer to confirm the identification of the
ordered part.

     We have also developed capabilities which allow pre-approved customers to
place orders via the world wide web, reducing the order processing costs for
both us and our customers. We believe this capability will increasingly become a
requirement by many customers and some suppliers. We enhanced our web-ordering
engine in 1999 by changing the basic architecture of the system. In 1999,
approximately 16% of our total transactions were processed via our website on
the world-wide web and we expect this percentage to increase in the coming year.

SALES AND MARKETING

     We view service logistics as a value-added service business. As such,
sustaining our growth is dependent upon building and maintaining relationships
and loyalties with Service Providers as well as OEMs. Within our Service
Provider division, we maintain a Service Provider sales force. Account managers
are assigned to maintain relationships with our largest national accounts and
are assigned other accounts based


                                      -5-
<PAGE>   7
on the customers' market segment. In our OEM division, we also have a separate
sales force focusing on OEM repair and outsourcing arrangements. Our sales
representatives visit major OEMs, Service Providers and attend various trade
shows.

     We advertise our parts and services in recognized trade magazines,
participate at trade shows, distribute news releases, and make direct mailings
to potential customers. Customers rely upon our advertisements, email
communications and frequent mailings as a source for product information,
including pricing. In addition, we maintain a presence on the world-wide web at
http://www.pcservice.com. We have applied for or registered our PC
SERVICESOURCE(R), RIGHT PARTS RIGHT NOW(R), PC SERVICENET(R), CERTIPARTS(TM),
SERVICE LOGISTICS YOU CAN COUNT ON(R), PARTS POINT(SM), PC PARTS NET(SM), PC
WIN(SM) and TEKWARE(SM) marks and related design service marks. We also conduct
customer satisfaction surveys and purchase market research data to maintain
continuous insight into marketplace trends and requirements.

     We provide training to our sales and account representatives regarding
technical characteristics of products and our policies and procedures. Each new
account representative attends a three-week course given by us. In addition, our
ongoing training program for sales and account representatives is supplemented
by product seminars offered by OEMs.

CUSTOMERS AND SUPPLIERS

     Through our Service Provider division, we sell parts to customers
throughout the United States, Canada and Latin America, as well as in other
countries. Inacom (formerly Vanstar) which accounted individually for
approximately 12% of our net revenues in 1999, notified us in early 1999 of its
intention to cancel the exclusive contract with us effective as of June 1999.
Although we still do business with Inacom, any such business is not on an
exclusive basis and has been significantly less than in prior years. Another
large OEM accounted for approximately 11% of our net revenues in 1999.

     We sell a variety of parts to Service Providers. In addition, our Service
Provider division has entered into Service Provider alliances with leading
Service Providers. Our OEM division has entered into outsourcing arrangements
with leading OEMs to outsource various service logistics functions. See
"Business -- Services." These arrangements with Service Providers and OEMs may
generally be terminated by either party at any time, but we have entered into
them with the expectation that these arrangements will lead to long-term
relationships with these parties.

     Our Service Provider division depends on numerous suppliers (including more
than 25 leading OEMs) to provide us with the parts we sell. There are generally
no long-term supply agreements governing our relationships with our major
suppliers. Our primary supply arrangements are thus subject to termination or
curtailment at any time, with little or no advance notice. Although management
expects no such loss to occur, the refusal or inability of any major
manufacturer to ship to us, or an increase in prices charged to us as compared
to the prices charged by such manufacturers to Service Providers, could have a
material adverse effect on our business.


                                      -6-
<PAGE>   8
COMPETITION

     We are the leading provider of service logistics outsourcing and support
services to the PC repair and maintenance industry. These service logistics
include freight logistics, spare parts distribution and order logistics, parts
exchange logistics, parts lifecycle management, inventory risk management,
warranty information logistics, repair logistics, same-day notebook repair and
component repair services. Management believes that we are the largest
independent distributor of parts used in the repair of PCs in North America.

     The market for our products is large but fragmented. Competition in the
industry is widespread and intense, and comes from other independent
distributors (including various small independents) that are not affiliated with
an OEM, as well as from the OEMs themselves. When OEMs act as distributors, they
typically distribute only their own products. Independent distributors typically
distribute a variety of manufacturers' parts. Among our major independent
competitors is The Cerplex Group, Computer Parts Unlimited and System Design
Associates. Certain of these competitors, such as the OEMs, are large and have
substantially greater financial and other resources than we have.

     In addition, the sale of PC spare parts competes with a customer's decision
to replace an entire PC. As the cost of a new computer declines, customers may
decide to purchase a new PC in favor of repairing their old PC.

EMPLOYEES

     As of March 1, 2000, we had 871 full time employees, of which 110 were in
the customer service center, 195 were in administration, 42 were in sales, 162
were in warehouse services and 362 were engineers or technicians. We are not
party to any collective bargaining agreement and believe relations with our
employees are satisfactory.

GOVERNMENT REGULATION

     We are subject to various federal, state and local laws and regulations
relating to worker safety and health, environmental regulations, and other
matters applicable to businesses in general. We do not believe that these
regulations as currently in effect have a material effect on our business.

ITEM 2.  PROPERTIES.

     All of our properties are located within the Dallas/Fort Worth Metroplex
area. In 1995, we entered into a 10-year office lease in Dallas, Texas. We lease
approximately 82,250 square feet in this facility which houses our corporate
offices, account representatives and information systems for each of our
divisions.

     In 1995, we entered into a 10-year build-to-suit lease for a 155,200 square
foot distribution center near the Alliance Airport near Fort Worth, Texas, out
of which parts are received, processed and shipped by our Service Provider
division. We have a build-to-suit lease option for an additional 100,000 square
feet at that location.


                                      -7-
<PAGE>   9
     In 1999, we entered into an 8-year lease for a 109,116 square foot
distribution center next to our main distribution center near the Alliance
Airport. This building is currently used for our Certiparts operations and parts
returned from customers for repair. This facility will also be used in the near
future for receiving and shipping our OEM inventory. This lease can be
terminated by us at any time during the third year of the term (May 1, 2001 -
April 30, 2002) by providing our notice of termination at least six months prior
to its effective date.

     We have a lease that expires in June 2001, for an 81,500 square foot
facility in Irving, Texas which houses the remanufacturing operations of our OEM
division. We have the option to renew the lease for an additional 3-year term.

ITEM 3. LEGAL PROCEEDINGS.

     We are subject to various pending and threatened litigation from time to
time in the ordinary course of business. Although all litigation involves some
degree of uncertainty, in the opinion of management, liabilities, if any,
arising from such litigation or threat thereof are not expected to have a
material adverse effect on our business, financial condition, results of
operation or cash flows.


                                      -8-
<PAGE>   10


                                     PART II


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

     Our common stock is traded on the Nasdaq National Market ("Nasdaq") under
the symbol "PCSS."

     For the periods indicated below, the following table sets forth the high
and low closing prices of our common stock as reported on Nasdaq.

<TABLE>
<CAPTION>
                        1999 CLOSING PRICES       1998 CLOSING PRICES
                        -------------------       -------------------
 CALENDAR PERIOD         LOW          HIGH         LOW           HIGH
------------------      -----         ----        -----          ----
<S>                     <C>           <C>         <C>            <C>
January 1-March 31      $1.81         $3.50       $4.38          $5.81
April 1-June 30          2.13          4.25        3.88           5.44
July 1-Sept. 30          3.00          4.50        2.50           4.25
Oct. 1-Dec. 31           2.00          3.25        2.19           4.38
</TABLE>

     As of March 16, 2000, there were 141 record holders of our common stock. We
estimate that there were approximately 2,100 beneficial owners of our common
stock as of the same date. We have not declared or paid any cash dividends on
the common stock since our organization. Under the terms of our revolving bank
line of credit, our ability to pay cash dividends to our stockholders is
restricted.


                                      -9-
<PAGE>   11

ITEM 6. SELECTED FINANCIAL DATA.

     The selected consolidated financial information regarding our financial
position and operating results for the five-year period ended December 31, 1999,
are derived from our audited consolidated financial statements. The data should
be read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the consolidated financial statements
and related notes included elsewhere in this report. Certain items prior to 1999
have been reclassified to conform with the 1999 presentation.

                    (In thousands, except per share amounts)

OPERATING RESULTS:

<TABLE>
<CAPTION>
                                                                           YEAR ENDED DECEMBER 31,
                                                  ------------------------------------------------------------------------
                                                     1999           1998            1997           1996            1995
                                                  ----------     ----------      ----------     ----------      ----------
<S>                                               <C>            <C>             <C>            <C>             <C>
Net revenues                                      $  149,807     $  160,773      $  131,843     $  110,146      $   68,690
Cost of revenues(1)                                  112,045        126,402         102,362         84,859          55,176
                                                  ----------     ----------      ----------     ----------      ----------
 Gross margin                                         37,762         34,371          29,481         25,287          13,514
Operating expenses:
   Selling, general and administrative(1)             29,020         37,335          25,068         19,599          11,831
   Restructuring charges(1)                               --          2,969              --             --              --
   Loss incurred from terminated supply
     agreement(2)                                         --             --              --             --           1,935
   Depreciation and amortization                       5,333          4,674           3,504          2,151           1,510
                                                  ----------     ----------      ----------     ----------      ----------
     Total operating expenses                         34,353         44,978          28,572         21,750          15,276
                                                  ----------     ----------      ----------     ----------      ----------
   Earnings (loss) from operations                     3,409        (10,607)            909          3,537          (1,762)
Net interest expense                                   1,697          1,605             739            577             473
                                                  ----------     ----------      ----------     ----------      ----------
   Earnings (loss) before income taxes                 1,712        (12,212)            170          2,960          (2,235)
Income tax expense (benefit)                              --             --              64          1,089            (730)
                                                  ----------     ----------      ----------     ----------      ----------
   Net earnings (loss)                            $    1,712     $  (12,212)     $      106     $    1,871      $   (1,505)
                                                  ==========     ==========      ==========     ==========      ==========
Earnings (loss) per share - basic                 $     0.31     $    (2.12)     $     0.02     $     0.38      $    (0.39)
Earnings (loss) per share - diluted               $     0.31     $    (2.12)     $     0.02     $     0.35      $    (0.39)
Weighted average common shares
   outstanding - basic                                 5,503          5,762           5,750          4,970           3,900
Weighted average common shares
   outstanding - diluted                               5,583          5,762           5,882          5,285           3,900
</TABLE>

BALANCE SHEET DATA:

<TABLE>
                                                                DECEMBER 31,
                                        ------------------------------------------------------------
                                          1999         1998         1997         1996         1995
                                        --------     --------     --------     --------     --------
<S>                                     <C>          <C>          <C>          <C>          <C>
Working capital(3)                      $ 25,152     $  6,192     $ 23,737     $ 23,494     $ 15,310
Total assets                              70,486       62,982       55,158       50,174       33,127
Long-term debt(3)                         21,501        2,677        8,695        3,059       10,165
Stockholders' equity                      19,771       20,140       32,334       32,196       11,603
</TABLE>

--------

(1)  The 1998 net loss includes pretax charges totaling $6.4 million related to
     certain non-recurring items, including a $3.0 million charge in connection
     with the consolidation of the repair operations, which is captioned as
     restructuring charges, $2.2 million of charges related to severance and
     other expenses included in selling, general and administrative expenses and
     $1.2 million, net, resulting from a review of policies, procedures and
     methodologies undertaken by management included in cost of revenues. See
     "Management's Discussion and Analysis of Financial Condition and Results of
     Operations."

(2)  1995 results include a non-recurring, pre-tax charge of $1.9 million
     related to the supply agreement with Intelogic Trace, Inc. ("Intelogic")
     which was terminated in connection with the bankruptcy of Intelogic.

(3)  During 1998, the entire outstanding amount under our revolving line of
     credit was classified as a current liability and, accordingly, our
     calculations of working capital and long-term debt for 1998 reflect that
     balance as a current liability. For all other periods, the balance
     outstanding under our revolving line of credit was classified as long-term
     debt.


                                      -10-
<PAGE>   12
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS.

OVERVIEW

     PC Service Source, Inc. provides service logistics outsourcing and support
services to the personal computer ("PC") hardware industry. To better focus on
market opportunities, we recently divided our operations into three divisions,
OEM, Service Provider and iService. The OEM division provides service logistics
outsourcing and support functions to OEMs and ODMs, which include parts
logistics, materials management, same-day notebook repair and component repair
services. The Service Provider division provides spare parts distribution, order
logistics, parts exchange logistics, parts lifecycle management and inventory
risk management. Our iService division is focused on developing various Internet
based systems to process and submit parts orders and warranty claims processing
functions utilizing our PC Parts Net and PC WIN proprietary technologies.
Currently, the results of operations for the iService division are included with
those of the Service Provider division due to their insignificance.

RESULTS OF OPERATIONS

     The following table displays our statements of operations as a percentage
of net revenues for the three years ended December 31, 1999:

<TABLE>
<CAPTION>
                                                   1999        1998         1997
                                                  ------      ------       ------
<S>                                               <C>         <C>          <C>
Net revenues ................................      100.0%      100.0%       100.0%
Cost of revenues ............................       74.8        78.6         77.6
                                                  ------      ------       ------
     Gross margin ...........................       25.2        21.4         22.4
                                                  ------      ------       ------

Operating expenses:
     Selling, general and administrative ....       19.4        23.2         19.0
     Depreciation and amortization ..........        3.6         2.9          2.7
     Restructuring charges ..................         --         1.9           --
                                                  ------      ------       ------
         Total operating expenses ...........       23.0        28.0         21.7
                                                  ------      ------       ------
     Earnings (loss) from operations ........        2.2        (6.6)         0.7

Net interest expense ........................        1.1         1.0          0.6
                                                  ------      ------       ------
     Earnings (loss) before income taxes ....        1.1        (7.6)         0.1
     Net earnings (loss) ....................        1.1%       (7.6)%        0.1%
                                                  ======      ======       ======
</TABLE>

YEAR ENDED DECEMBER 31, 1999 COMPARED TO THE YEAR ENDED DECEMBER 31, 1998

     We recognized a 6.8% decrease in net revenues for the year ended December
31, 1999, with $149.8 million in revenues compared to $160.8 million for the
year ended December 31, 1998. The decrease in revenue was due primarily to
significantly less revenue from our Service Provider division, which includes
Vanstar (subsequently acquired by Inacom). In February 1999, Vanstar notified us
of its intention to terminate our exclusive contract effective as of June 1999.
As a result, our Vanstar business materially declined in 1999 compared to 1998.
The


                                      -11-
<PAGE>   13

decrease in revenue from our Service Provider division due to Vanstar was
partially offset by an increase in revenue from our OEM division, which includes
the OEM outsourcing and repair services business. This increase was due
primarily to the implementation of an OEM outsourcing arrangement in the fourth
quarter of 1998 along with a new OEM outsourcing arrangement in the latter
portion of the third quarter of 1999.

     Gross margin as a percentage of net revenues increased to 25.2% from 21.4%
in 1998. Since the gross margin is different for each line of computer spare
parts we sell, changes in the mix of parts sold by us during a particular period
affect our gross margin. The increase in gross margin was due primarily to a
higher percentage of our business being generated from the OEM division. The
higher margin from our OEM business is due to the fee based pricing structure we
utilize for most of our OEM transactions. This increase was partially offset by
higher purchasing and handling costs necessary to support the increase in our
OEM revenues. The gross margin from our Service Provider division will most
likely continue to be less than the gross margin from our OEM division as the
replacement cost for an entire PC continues to decline.

     Selling, general and administrative expenses as a percentage of net
revenues decreased to 19.4% in 1999 from 23.2% in 1998. The decrease was
primarily due to the following three factors: (a) our adoption of additional
expense reductions and the implementation of tighter controls on discretionary
expenses; (b) the closure of the West Coast repair operations of our PCSS Repair
Services subsidiary in the fourth quarter of 1998; and (c) a non-recurring
charge related to the termination of an unprofitable warranty processing program
in the second quarter of 1998.

     Depreciation and amortization increased as a percentage of net revenues to
3.6% in 1999 from 2.9% in 1998. This increase was due to a higher asset base in
1999 resulting from significant capital expenditures made by us in 1998 and
throughout 1999, as well as the decrease in net revenues.

     Net interest expense increased slightly in 1999 to 1.1% of net revenues
from 1% of net revenues in 1998. The increase is attributable to significantly
greater average borrowings during 1999 versus 1998.

YEAR ENDED DECEMBER 31, 1998 COMPARED TO THE YEAR ENDED DECEMBER 31, 1997

     We recognized a 21.9% increase in net revenues for the year ended December
31, 1998, with $160.8 million in revenues compared to $131.8 million for the
year ended December 31, 1997. The increase in net revenues is primarily the
result of a contract to provide service parts on an exclusive basis to Vanstar
that began in the first quarter of 1998 in our Service Provider division. In
addition, we increased our notebook repair service business in 1998.

     Gross margin as a percentage of net revenues declined from 22.4% in 1997 to
21.4% in 1998. Since the gross margin is different for each line of computer
spare parts which we sell, changes in the mix of parts we sell during a
particular period affects our gross margin. The decrease in gross margin was due
to (a) significantly lower OEM margins in 1998, which were the result of
initiating several major customer relationships, (b) 200% increase in the repair
business, (c) deficiencies in the freight monitoring, control and billing
process, which were identified and corrected in the second quarter of 1998, and
(d) increased personnel related costs for the conversion of our automated
warehouse management system.


                                      -12-
<PAGE>   14

     Selling, general and administrative expenses as a percentage of net
revenues rose from 19.0% in 1997 to 23.2% in 1998. The primary reasons for this
increase were (a) a charge related to a discontinued, unprofitable warranty
processing program, (b) changes related to management's review and modification
of the policies, procedures and methodologies for valuing our assets and
liabilities and (c) increased occupancy costs primarily related to the repair
services operations. During the fourth quarter 1998, we reviewed our various
customer programs and segmented those programs based on customer requirements.
Specific service levels, business terms and conditions and targeted profit
levels were identified, implemented and established for each customer category.

     Restructuring charges totaled 1.9% as a percent of net revenues in 1998.
The charges totalled $3.0 million in connection with the consolidation of our
west coast repair facility into its Irving, Texas facility which included future
lease commitments, severance and the write-off of goodwill associated with the
west coast operations.

     Depreciation and amortization increased as a percentage of net revenues to
2.9% in 1998 compared to 2.7% in 1997. This increase was due to the 1998 capital
expenditures and recognizing a full year of depreciation on the significant 1997
capital expenditures.

     Net interest expense increased slightly in 1998 to 1.0% of net revenues
from 0.6% of net revenues in 1997. The increase is attributable to significantly
greater average borrowings during 1998 versus 1997.

LIQUIDITY AND CAPITAL RESOURCES

     In the first quarter of 1999, we entered into a new $25.0 million Revolving
Line of Credit and Security Agreement (the "Line of Credit") with PNC Bank,
National Association, which matures in March 2002. The proceeds were in part
used to retire the revolving line of credit with NationsBank, N.A. The new
revolving Line of Credit carries a floating interest rate based on either LIBOR
or the PNC prime rate and is secured by substantially all of the assets of the
Company. As of December 31, 1999, we had $20.2 million outstanding and
approximately $0.9 million of availability. The credit facility prohibits the
payment of dividends to common stockholders and contains customary covenants.

     With the exception of 1997 and 1999, we have historically been a net user
of cash from operations, and have financed our working capital requirements and
capital expenditures from revolving credit, capital leases and equity financing.
Cash provided by operating activities during the year ended December 31, 1999,
was $2.7 million compared with cash used by operating activities in 1998 of $2.1
million. The change in cash used in operating activities to cash provided by
operating activities is primarily due to the $12.2 million loss in 1998 compared
to the $1.7 million net earnings in 1999, as well as lower accounts receivable
partially offset by the increase in inventories and decrease in accrued
liabilities.

     Cash used in investing activities was $4.9 million for the year ended
December 31, 1999. Capital expenditures totaled $4.9 million, $5.8 million and
$5.0 million in 1999, 1998 and 1997, respectively. Capital expenditures during
1999 included improvements to our management information systems, furniture,
fixtures, and leasehold improvements at the new warehouse facility. We
anticipate capital expenditures of $3.0 to $4.0 million in 2000 for improvements
and modifications to our information systems, warehouse equipment and


                                      -13-
<PAGE>   15
other necessary equipment. We believe these expenditures are required to support
and manage future profit growth of our business.

     On April 21, 1999, we announced the adoption of a stock repurchase program
enabling us to repurchase up to 600,000 shares of our outstanding common stock.
On July 30, 1999, we increased our stock repurchase program from 600,000 to
1,000,000 shares. During the year ended December 31, 1999, we repurchased
532,500 shares at an aggregate cost of $2.1 million. The repurchased stock is
treasury shares which is available for general corporate purposes.

     We believe that the cash provided by our operating activities, the
availability under our line of credit and our equipment financing related to
capital expenditures for the purchase of equipment, will be sufficient to meet
our 2000 working capital and capital expenditure requirements, so long as our
inventory levels are properly managed.

EFFECTS OF INFLATION

     We believe that the effects of inflation on our operations have not been
material during the past three years.

YEAR 2000

     The widespread use of computer programs that rely on two-digit dates to
perform computation and decision-making functions may cause computer systems,
including systems and software used by our company and our websites, to
malfunction in the Year 2000, and may lead to significant business delays and
disruptions in our business and operations. We have completed our plan to
minimize the impact of this Year 2000 problem in our operations by testing all
of our critical information systems and equipment and machinery that contain
embedded technology, as well as obtaining assurances from all critical third
parties as to their own Year 2000 preparedness. The cost of our Year 2000
compliance was approximately $500,000, substantially all of which had been
incurred as of December 31, 1999. As of the date of this report, all of our
critical systems have been successfully tested for Year 2000 compliance and we
have not experienced any significant Year 2000 problems with our own critical
systems or any critical third parties. Although we have not experienced any
significant Year 2000 problems to date, we plan to monitor the situation
closely.

     Although, as of the date of this report, we have not experienced any
material disruptions in our operations from Year 2000 related issues, Year 2000
compliance problems potentially could undermine the general infrastructure
necessary to support our operations. As part of our broader contingency
planning, we developed business continuity plans to address each critical
process and activity that we believe would cause a significant disruption to
operations if not functional for 24 hours. Despite these efforts, we cannot
guarantee


                                      -14-
<PAGE>   16

that the contingency plan will adequately address all circumstances that may
disrupt operations or that such planning will prevent circumstances that may
cause a material adverse effect on our operating results or financial condition.

CAUTION REGARDING FORWARD-LOOKING STATEMENTS

     We occasionally make forward-looking statements concerning our plans,
goals, product and service offerings, and anticipated financial performance.
These forward-looking statements may generally be identified by introductions
such as "outlook" for an upcoming period of time, or words and phrases such as
"should", "expect", "hope", "plans", "projected", "believes", "forward-looking"
(or variants of those words and phrases) or similar language indicating the
expression of an opinion or view concerning the future.

     These forward-looking statements are subject to risks and uncertainties
based on a number of factors and actual results or events may differ materially
from those anticipated by such forward-looking statements. These factors
include, but are not limited to: the growth rate of our revenue and market
share; the consummation of new and the non-termination of, existing OEM
outsourcing arrangements and service provider alliances; our ability to
effectively manage our business functions while growing our business in a
rapidly changing environment; our ability to adapt and expand our services in
such an environment; the effective and efficient purchasing of parts, managing
inventory levels and processing of sales orders; the quality of our plans and
strategies; and our ability to execute such plans and strategies.

     In addition, forward-looking statements concerning our expected revenue or
earnings levels are subject to many additional uncertainties applicable to
competitors generally and to general economic conditions over which we have no
control. We do not plan to generally publicly update prior forward-looking
statements for unanticipated events or otherwise and, accordingly, prior
forward-looking statements should not be considered to be "fresh" simply because
we have not made additional comments on those forward-looking statements.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     Our earnings are affected by changes in interest rates due to the impact
those changes have on the interest expense payable by us under our variable rate
debt revolving line of credit, for which the outstanding balance was $20.2
million and $14.2 million as of December 31, 1999 and December 31, 1998,
respectively. A 1.0% change in the underlying LIBOR or prime rate would result
in a $202,000 and $142,000 change in the annual amount of interest based on the
impact of the hypothetical interest rates on our revolving line of credit
outstanding as of December 31, 1999 and December 31, 1998, respectively.

ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

     The Consolidated Financial Statements together with the report thereon of
Ernst & Young LLP and KPMG LLP are included in this report commencing at Page
F-1.


                                      -15-
<PAGE>   17
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
        FINANCIAL DISCLOSURE.

     During May and June 1998, we requested several independent accounting
firms, including our existing independent auditor, to submit a proposal for
providing audit and tax services to us. KPMG LLP, our independent auditor at
that time, advised us that it would not be participating in the request for
proposal and resigned as our independent auditor. At a meeting held on June 17,
1998, the Audit Committee of our Board of Directors approved the engagement of
Ernst & Young LLP, as our independent auditor for the fiscal year ending
December 31, 1998, to replace the firm of KPMG LLP.

     The audit reports of KPMG LLP on our financial statements for fiscal years
1997 and 1996 did not contain an adverse opinion or a disclaimer of opinion, nor
were they qualified or modified as to uncertainty, audit scope, or accounting
principles. In connection with the audits of our financial statements for the
years ended December 31, 1997, and December 31, 1996, and for the subsequent
interim period through June 11, 1998, there were no disagreements with KPMG LLP
on any matter of accounting principles or practices, financial statement
disclosure, or auditing scope and procedures which, if not resolved to the
satisfaction of KPMG LLP, would have caused KPMG LLP to make reference to the
subject matter in its reports. KPMG LLP furnished us with a letter addressed to
the Securities and Exchange Commission stating it agreed with the foregoing
statements. A copy of that letter, dated June 18, 1998, was filed as Exhibit
99.1 to our Report on Form 8-K filed in June 1998.


                                      -16-
<PAGE>   18

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

     The information set forth under the heading "Management" of the definitive
proxy statement for our 2000 Annual Meeting of Stockholders is incorporated by
reference in this Form 10-K Annual Report.

ITEM 11. EXECUTIVE COMPENSATION.

     The information set forth under the heading "Executive Compensation" of the
definitive proxy statement for our 2000 Annual Meeting of Stockholders is
incorporated by reference in this Form 10-K Annual Report.

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

     The information set forth under the heading "Ownership of Common Stock by
Certain Beneficial Owners and Management" of the definitive proxy statement for
our 2000 Annual Meeting of Stockholders is incorporated by reference in this
Form 10-K Annual Report.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

     The information set forth under the headings "Management -- Board Meetings
and Committees of the Board," and "Management -- Compensation of the Company's
Directors" of the definitive proxy statement for our 2000 Annual Meeting of
Stockholders is incorporated by reference in this Form 10-K Annual Report.


                                      -17-
<PAGE>   19

                                     PART IV

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

FINANCIAL STATEMENTS

     The following financial statements of the company and its subsidiaries are
filed as a part of this report:

<TABLE>
<CAPTION>
                                                                             Page
                                                                             ----
<S>                                                                          <C>
Reports of Independent Auditors..............................................F-1
Consolidated Balance Sheets - December 31, 1999 and 1998.....................F-3
Consolidated Statements of Operations -- For the Three Years
  Ended December 31, 1999....................................................F-5
Consolidated Statements of Stockholders' Equity -- For the Three Years
  Ended December 31, 1999....................................................F-6
Consolidated Statements of Cash Flows -- For the Three Years
  Ended December 31, 1999....................................................F-7
Notes to Consolidated Financial Statements...................................F-8
</TABLE>

     The following consolidated financial statement schedule of the company is
filed as a part of this report:

FINANCIAL STATEMENT SCHEDULE

<TABLE>
<CAPTION>
                                                                            Page
                                                                            ----
<S>                                                                         <C>
Schedule II -- Valuation and Qualifying Accounts -- For the
  Three Years Ended December 31, 1999.......................................F-20
</TABLE>

     All other financial statement schedules have been omitted because they are
not applicable or the required information is shown in the consolidated
financial statements and notes thereto.

REPORTS ON FORM 8-K

     None.


                                      -18-
<PAGE>   20

The following exhibits are filed as a part of this report:

Exhibit
Number                                     Exhibit

3.1+++              Restated Certificate of Incorporation of the company

3.2++               Amended and Restated Bylaws of the company

4.1+                Specimen Certificate evidencing Common Stock

4.2v++              Certificate of Designations of Series A Junior Participating
                    Preferred Stock

10.1v++             Revolving Credit and Security Agreement by and among the
                    Company, its subsidiaries and PNC Bank, National
                    Association, as lender and as agent

10.2v++             Stock Option Plan, including form of Stock Option
                    Agreements, as amended

10.3++              Rights Plan

10.4+v              Director Compensation Plan

10.5v               Employee Stock Purchase Plan

16v+                Resignation of KPMG LLP

21*                 Subsidiaries of the Company

23.1*               Consent of Ernst & Young LLP

23.2*               Consent of KPMG LLP

27*                 Financial Data Schedule

+    Previously filed as an exhibit to the company's Registration Statement on
     Form SB-2, Registration Number 33-76068-D, initially filed with the
     Securities and Exchange Commission on March 4, 1994, and declared effective
     on March 29, 1994.

++   Previously filed as an exhibit to the company's report on Form 8-K filed
     with the Securities and Exchange Commission on December 9, 1998.

+++  Previously filed as an exhibit to the company's report on Form S-8,
     Registration Number 33-98176, filed with the Securities and Exchange
     Commission on October 17, 1995.

+v   Previously filed as an exhibit to the company's report on Form 10-K for the
     year ended December 31, 1995, filed with the Securities and Exchange
     Commission on March 31, 1996.

v    Previously filed as an exhibit to the company's Registration Statement on
     Form S-1, Registration Number 333-03977, initially filed with the
     Securities and Exchange Commission on May 17, 1996, and declared effective
     on May 28, 1996.

v+   Previously filed as an exhibit to the company's report on Form 8-K filed
     with the Securities and Exchange Commission on June 18, 1998.

v++  Previously filed as an exhibit to the company's report on Form 10-K for the
     year ended December 31, 1998, filed with the Securities and Exchange
     Commission on March 31, 1999.

*    Filed herewith.

<PAGE>   21
                                   SIGNATURES

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

                                       PC SERVICE SOURCE, INC.


March 29, 2000                         By: /s/ AVERY MORE
                                           -------------------------------------
                                           Avery More, Chairman of the Board and
                                           Chief Executive Officer

     Pursuant to the requirements of the Securities Act of 1934, this report has
been signed below by the following persons on behalf of the registrant and in
the capacities indicated on March 29, 2000.

<TABLE>
<CAPTION>
                SIGNATURE                                            CAPACITY
                ---------                                            --------
<S>                                              <C>


             /s/ Avery More                      Chairman of the Board and Chief Executive Officer
--------------------------------------------        (Principal Executive Officer)
                 Avery More


          /s/ Robert J. Boutin                   Senior Vice President, Chief Financial Officer and
--------------------------------------------        Secretary, Director, (Principal Financial and
              Robert J. Boutin                      Accounting Officer)


           /s/ Morti Tenenhaus                   Director
--------------------------------------------
               Morti Tenenhaus


           /s/ Robert S. Leff                    Director
--------------------------------------------
               Robert S. Leff


           /s/ Edward Raymund                    Director
--------------------------------------------
               Edward Raymund


              /s/ Jay Haft                       Director
--------------------------------------------
                  Jay Haft
</TABLE>

<PAGE>   22

Report of Independent Auditors


The Board of Directors and Stockholders of PC Service Source, Inc.


     We have audited the accompanying consolidated balance sheets of PC Service
Source, Inc. and subsidiaries as of December 31, 1999 and 1998, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the years then ended. Our audit also included the financial statement schedule
listed in the index at Item 14. These financial statements and schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and schedule based on our audits.

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

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

     We also audited the reclassification described in Note 1(n) to the
consolidated financial statements that was applied to reclassify certain amounts
in the 1997 consolidated statement of operations and the segment information for
1997 included in Note 12 to the consolidated financial statements. In our
opinion, such reclassification is appropriate and properly applied and the 1997
segment information is in accordance with Financial Accounting Standards No.
131, "Disclosures about Segments of an Enterprise and Related Information," in
all material respects.


                                            /s/ Ernst & Young LLP


Dallas, Texas
February 7, 2000


                                      F-1
<PAGE>   23
                          INDEPENDENT AUDITORS' REPORT



The Stockholders and Board of Directors
PC Service Source, Inc.:

We have audited the accompanying consolidated statements of operations,
stockholders' equity, and cash flows of PC Service Source, Inc. and
subsidiaries for the year ended December 31, 1997, before the reclassification
described in Note 1(n) and the inclusion of segment information in Note 12 to
the consolidated financial statements. In connection with the audit of these
consolidated financial statements, we have also audited the financial statement
schedule as listed in the accompanying index for the year ended December 31,
1997. These consolidated financial statements and financial statement schedule
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audit.

We conducted our audit 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 audit provides a reasonable basis for our opinion.

In our opinion, the consolidated statements of operations, stockholders' equity,
and cash flows (before reclassification and the inclusion of segment
information) referred to above present fairly, in all material respects, the
results of operations and cash flows of PC Service Source, Inc. and
subsidiaries, for the year ended December 31, 1997, in conformity with generally
accepted accounting principles. Also in our opinion, the related financial
statement schedule, when considered in relation to the basic consolidated
financial statements taken as a whole, presents fairly, in all material
respects, the information set forth therein for the year ended December 31,
1997.


                                              /s/ KPMG  LLP


Dallas, Texas
February 13, 1998

                                      F-2
<PAGE>   24

PC SERVICE SOURCE, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                         December 31,
                                                    ----------------------
                                                      1999          1998
                                                    --------      --------
<S>                                                 <C>           <C>
Current assets:
   Cash                                             $  1,138      $    940
   Accounts receivable, less allowance for
      doubtful accounts of $571 and $974 at
      December 31, 1999 and 1998, respectively        15,259        20,241
   Inventories, less reserve for obsolescence
      of $4,311 and $6,469 at December 31, 1999
      and 1998, respectively                          35,019        21,250
   Income taxes receivable                               380           699
   Deferred income taxes                                 741         1,102
   Other current assets                                  976         1,023
                                                    --------      --------
                 Total current assets                 53,513        45,255
                                                    --------      --------
Property and equipment
   Computer equipment and software                    21,009        17,367
   Furniture and fixtures                              7,454         7,009
   Leasehold improvements                              2,477         1,993
                                                    --------      --------
                                                      30,940        26,369
   Accumulated depreciation and amortization         (16,245)      (11,288)
                                                    --------      --------
                 Net property and equipment           14,695        15,081
                                                    --------      --------
Goodwill, net of accumulated amortization of
   $616 and $451 at December 31, 1999 and 1998,
   respectively                                        1,589         1,819
Other assets, net                                        689           827
                                                    --------      --------
                 Total Assets                       $ 70,486      $ 62,982
                                                    ========      ========
</TABLE>


                                      F-3

<PAGE>   25

PC SERVICE SOURCE, INC. AND SUBSIDIARIES
Consolidated Balance Sheets, Continued
(In thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                                              December 31,
                                                                         ----------------------
                                                                           1999          1998
                                                                         --------      --------
<S>                                                                      <C>           <C>
Current liabilities:
   Accounts payable                                                      $ 18,827      $ 13,997
   Accrued liabilities                                                      8,290         9,438
   Current portion of obligations under capital leases                      1,244         1,399
   Revolving line of credit                                                    --        14,229
                                                                         --------      --------
             Total current liabilities                                     28,361        39,063
                                                                         --------      --------
Long-term debt - revolving line of credit                                  20,180            --

Obligations under capital leases, excluding current portion                 1,433         2,677

Deferred income taxes                                                         741         1,102

Stockholders' equity:
   Preferred stock, $.01 par value. Authorized 5,000,000 shares;
      none issued                                                              --            --
   Common stock, $.01 par value. Authorized 20,000,000 shares;
      issued 5,934,582 and 5,906,582 shares at December 31, 1999
      and 1998, respectively                                                   59            59
Additional paid-in capital                                                 31,046        30,996
Accumulated deficit                                                        (7,413)       (9,125)
Less treasury stock, at cost (665,262 and 132,762 common shares
   at December 31, 1999 and 1998, respectively)                            (3,921)       (1,790)
                                                                         --------      --------
             Total stockholders' equity                                    19,771        20,140
                                                                         --------      --------
                   Total Liabilities and Stockholders' Equity            $ 70,486      $ 62,982
                                                                         ========      ========
</TABLE>


See accompanying notes to consolidated financial statements.


                                      F-4
<PAGE>   26

PC SERVICE SOURCE, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
Years ended December 31, 1999, 1998 and 1997
(In thousands, except per share amounts)


<TABLE>
<CAPTION>
                                                     1999           1998            1997
                                                  ----------     ----------      ----------
<S>                                               <C>            <C>             <C>
Net revenues ................................     $  149,807     $  160,773      $  131,843

Cost of revenues ............................        112,045        126,402         102,362
                                                  ----------     ----------      ----------
    Gross margin ............................         37,762         34,371          29,481
                                                  ----------     ----------      ----------
Operating expenses:
    Selling, general and administrative .....         29,020         37,335          25,068
    Depreciation and amortization ...........          5,333          4,674           3,504
    Restructuring charges ...................             --          2,969              --
                                                  ----------     ----------      ----------
         Total operating expenses ...........         34,353         44,978          28,572
                                                  ----------     ----------      ----------
    Earnings (loss) from operations .........          3,409        (10,607)            909

Net interest expense ........................          1,697          1,605             739
                                                  ----------     ----------      ----------
    Earnings (loss) before income taxes .....          1,712        (12,212)            170

Income tax expense ..........................             --             --              64
                                                  ----------     ----------      ----------
    Net earnings (loss) .....................     $    1,712     $  (12,212)     $      106
                                                  ==========     ==========      ==========
Earnings (loss) per share
    Basic ...................................     $     0.31     $    (2.12)     $      .02
                                                  ==========     ==========      ==========
    Diluted .................................     $     0.31     $    (2.12)     $      .02
                                                  ==========     ==========      ==========
Weighted average common shares outstanding
    Basic ...................................          5,503          5,762           5,750
                                                  ==========     ==========      ==========
    Diluted .................................          5,583          5,762           5,882
                                                  ==========     ==========      ==========
</TABLE>


See accompanying notes to consolidated financial statements.


                                      F-5
<PAGE>   27

PC SERVICE SOURCE, INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(In thousands, except share amounts)

<TABLE>
<CAPTION>
                                                                                        Retained
                                                  Common stock           Additional     earnings                          Total
                                            ------------------------      paid-in     (accumulated      Treasury       stockholders'
                                             Shares         Amount        capital        deficit)         stock           equity
                                            ---------     ----------     ----------   -------------     ----------     ------------
<S>                                         <C>           <C>            <C>            <C>             <C>             <C>
Balance at December 31, 1996 .........      5,879,582     $       59     $   30,946     $    2,981      $   (1,790)     $   32,196
         Issuance of stock ...........          1,500             --             10             --              --              10
         Exercise of stock options ...         10,000             --             22             --              --              22
         Net earnings ................             --             --             --            106              --             106
                                            ---------     ----------     ----------     ----------      ----------      ----------
Balance at December 31, 1997 .........      5,891,082             59         30,978          3,087          (1,790)         32,334
         Exercise of stock options ...         15,500             --             18             --              --              18
         Net loss ....................             --             --             --        (12,212)             --         (12,212)
                                            ---------     ----------     ----------     ----------      ----------      ----------
Balance at December 31, 1998 .........      5,906,582             59         30,996         (9,125)         (1,790)         20,140
         Issuance of stock ...........          7,500             --             23             --              --              23
         Stock repurchased ...........             --             --             --             --          (2,131)         (2,131)
         Exercise of stock options ...         20,500             --             27             --              --              27
         Net earnings ................             --             --             --          1,712              --           1,712
                                            ---------     ----------     ----------     ----------      ----------      ----------
Balance at December 31, 1999 .........      5,934,582     $       59     $   31,046     $   (7,413)     $   (3,921)     $   19,771
                                            =========     ==========     ==========     ==========      ==========      ==========
</TABLE>


See accompanying notes to consolidated financial statements.


                                       F-6
<PAGE>   28

PC SERVICE SOURCE, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)

<TABLE>
<CAPTION>
                                                                          Year Ended December 31,
                                                                 ------------------------------------------
                                                                    1999            1998            1997
                                                                 ----------      ----------      ----------
<S>                                                              <C>             <C>             <C>
Cash flows from operating activities:
         Net earnings (loss) ...............................     $    1,712      $  (12,212)     $      106
   Adjustments to reconcile net earnings (loss) to
      net cash provided by (used in) operating activities:
        Depreciation and amortization ......................          5,333           4,674           3,504
        Deferred income taxes ..............................             --             481            (181)
        Restructuring charges ..............................             --           2,969              --
        Changes in operating assets and liabilities:
          Accounts receivable ..............................          4,982          (3,239)         (2,995)
          Inventories ......................................        (13,769)         (4,520)          2,079
          Other current assets .............................             47              75            (335)
          Accounts payable .................................          4,830           5,194           1,043
          Accrued liabilities ..............................         (1,148)          4,476             803
          Income taxes receivable/payable ..................            319             (31)           (706)
          Other, net .......................................            369              78            (350)
                                                                 ----------      ----------      ----------
             Net cash provided by (used in) operating
               activities ..................................          2,675          (2,055)          2,968
                                                                 ----------      ----------      ----------
Cash flows from investing activities:
   Capital expenditures ....................................         (4,925)         (5,813)         (4,999)
   Acquisitions ............................................             --            (384)         (2,451)
                                                                 ----------      ----------      ----------
             Net cash used in investing activities .........         (4,925)         (6,197)         (7,450)
                                                                 ----------      ----------      ----------
Cash flows from financing activities:
   Purchase of treasury shares .............................         (2,131)             --              --
   Net revolving debt borrowings (payments) ................          5,951           8,694           2,482
   Proceeds from sale-leaseback transaction ................             --             963              --
   Principal payments under capital lease obligations ......         (1,399)         (1,200)           (955)
   Proceeds from exercise of common stock options ..........             27              18              22
                                                                 ----------      ----------      ----------
             Net cash provided by financing activities .....          2,448           8,475           1,549
                                                                 ----------      ----------      ----------
Net increase (decrease) in cash ............................            198             223          (2,933)
Cash at beginning of year ..................................            940             717           3,650
                                                                 ----------      ----------      ----------
Cash at end of year ........................................     $    1,138      $      940      $      717
                                                                 ==========      ==========      ==========
Supplemental cash flow disclosures:
   Interest paid ...........................................     $    1,637      $    1,493      $      612
                                                                 ==========      ==========      ==========
   Income taxes paid (refunded), net .......................     $     (316)     $     (461)     $      856
                                                                 ==========      ==========      ==========
</TABLE>


See accompanying notes to consolidated financial statements.


                                      F-7
<PAGE>   29

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

(1)  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     (a)  Description of Business

          PC Service Source, Inc. and Subsidiaries (the "Company") are providers
          of logistic services ("Service logistics") to the personal computer
          ("PC") hardware repair industry. Service logistics includes sourcing
          and distributing spare parts, inventory management, warranty claims
          processing, parts remanufacturing and related functions, and are
          provided to customers throughout the United States, Canada and Latin
          America, as well as other countries. Service logistics also includes
          notebook repair.

     (b)  Basis of Consolidation

          The consolidated financial statements include the accounts of PC
          Service Source, Inc. and its wholly and majority owned subsidiaries.
          All significant intercompany balances and transactions have been
          eliminated in consolidation.

     (c)  Inventories

          Inventories are stated at the lower of average cost or market and
          consist primarily of new and remanufactured personal computer parts.

     (d)  Property and Equipment

          Property and equipment are stated at cost. Depreciation is calculated
          on the straight-line method over the estimated useful lives of assets,
          which range from 3 to 5 years. Leasehold improvements are amortized
          using the straight-line method over the lesser of the estimated useful
          lives of the assets or the remaining term of the lease, which range
          from 5 to 7 years.

     (e)  Goodwill

          Goodwill represents the excess of purchase price over fair value of
          net assets acquired and is amortized on a straight-line basis over the
          expected periods to be benefitted of 7 to 15 years.

     (f)  Revenue Recognition

          Revenue is recognized upon completion of services normally represented
          by shipment to the customer.


                                      F-8

<PAGE>   30
                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     (g)  Income Taxes

          Income taxes are accounted for under the asset and liability method.
          Deferred tax assets and liabilities are recognized for the future tax
          consequences attributable to differences between the financial
          statement carrying amounts of existing assets and liabilities and
          their respective tax bases and operating loss and tax credit
          carryforwards. Deferred tax assets and liabilities are measured using
          enacted tax rates expected to apply to taxable income in the years in
          which those temporary differences are expected to be recovered or
          settled. The effect on deferred tax assets and liabilities of a change
          in tax rates is recognized in income in the period that includes the
          enactment date.

     (h)  Use of Estimates

          The preparation of the consolidated 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 the disclosure of contingent assets and
          liabilities at the date of consolidated financial statements, and the
          reported amounts of revenues and expenses during the reported periods.
          Actual results could differ from those estimates. The most significant
          of these estimates is the reserve for inventory obsolescence. Due to
          the nature of the inventory and the rapid technological changes, it is
          possible that a change in this estimate could occur, the effect of
          which could be material to the consolidated financial statements.

     (i)  Comprehensive Income

          Comprehensive income is defined as the change in equity during a
          period from transactions and other events and circumstances from
          non-ownership sources. It includes all changes in equity during a
          period, except those resulting from investments by owners and
          distributions to owners. Comprehensive income (loss) is equal to net
          earnings (loss) as presented on the Consolidated Statements of
          Operations for the years ended December 31, 1999, 1998 and 1997.

     (j)  Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed
          Of

          Long-lived assets and certain identifiable intangible assets are
          reviewed for impairment whenever events or changes in circumstances
          indicate that the carrying amount of an asset may not be recoverable.
          Recoverability of assets to be held and used is measured by a
          comparison of the carrying amount of an asset to future net cash flows
          expected to be generated by the asset. If such assets are considered
          to be impaired, the impairment to be recognized is measured by the
          amount


                                      F-9
<PAGE>   31

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

          by which the carrying amount of the assets exceeds the fair value of
          the assets. Assets to be disposed of are reported at the lower of the
          carrying amount or fair value less costs to sell.

     (k)  Noncash Financing and Investing Activities

          Capital lease obligations of $963 and $1,368 were incurred for
          computer equipment and furniture and fixtures in 1998 and 1997,
          respectively.

          In 1999 and 1997, 7,500 and 1,500 shares of common stock,
          respectively, were issued to directors in lieu of cash payments for an
          expense of $23 and $10, respectively.

     (l)  Significant Customers

          In 1999, two customers, Inacom (previously Vanstar) and a large OEM
          accounted for approximately 12% and 11%, respectively, of the
          Company's net revenues. No other customers accounted for 10% or more
          in revenues in 1999. In 1998, only Vanstar exceeded 10% of total
          revenues by accounting for approximately 16%.

          In February 1999, Inacom notified the Company of its intention to
          terminate the exclusive contract with the Company effective as of June
          1999. Although we still do business with Inacom, such business is not
          on an exclusive basis and is now significantly less than prior to June
          1999.

     (m)  Fair Value of Financial Instruments

          The carrying values of cash, accounts receivable and accounts payable
          approximate fair value due to the short-term maturity of these
          instruments. The carrying value of the revolving line of credit
          outstanding approximates the estimated fair value since the obligation
          bears interest at current market rates.

     (n)  Reclassification

          The Company has reclassified how it reports all purchasing and
          distribution expenses, as well as certain facility costs. For the
          year ended December 31, 1999, those items are now reported by the
          Company in cost of revenues instead of in selling, general and
          administrative expenses. Management believes that the
          reclassification of these expenses is a better indication of the
          Company's gross margin given the recent shift in significance of the
          Company's OEM business. The related amounts described above have been
          reclassified to conform with the 1999 presentation. These
          reclassifications increased revenues and decreased selling, general
          and administrative expenses by $10,595 and $8,203 in 1998 and 1997,
          respectively.


                                      F-10

<PAGE>   32
                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)



(2)  INCOME TAXES

          Income tax expense for the years ended December 31 is presented below.

<TABLE>
<CAPTION>
                                           1999           1998            1997
                                        ----------     ----------      ----------
<S>                                     <C>             <C>             <C>
Federal:
    Current                             $      --      $     (633)     $      247
    Deferred                                   --             384            (166)
State:
    Current                                    --             152              (2)
    Deferred                                   --              97             (15)
                                        ----------      ----------      ----------
                                        $      --      $       --      $       64
                                        ==========      ==========     ==========
</TABLE>

          The reconciliation of income taxes at the federal statutory rate of
          34% to the effective tax rate for the years ended December 31 is
          presented below.

<TABLE>
<CAPTION>
                                                             1999             1998             1997
                                                           --------         --------         --------
<S>                                                        <C>              <C>              <C>
Income taxes (benefit) at federal statutory rate             34.0%           (34.0)%           34.0%
State taxes, net of federal income tax benefit                --              (2.1)%            2.7%
Change in valuation allowance                               (35.4%)           30.9%             -- %
Other                                                         1.4%             5.2%             0.9%
                                                            -----            -----             ----
Effective rate                                                -- %             -- %            37.6%
                                                            =====            =====             ====
</TABLE>

          The tax effects of temporary differences that give rise to significant
          portions of the deferred tax assets and deferred tax liability at
          December 31 are presented below.

<TABLE>
<CAPTION>
                                                                   1999           1998
                                                                 --------       --------
<S>                                                              <C>            <C>
Deferred tax assets:
    Inventory reserves                                           $  2,064         2,072
    Net operating loss carryforwards                                1,516         1,434
    Accrued expenses                                                  281           899
    Accounts receivable                                               276           363
    Other                                                             175           104
    Valuation allowance                                            (3,571)       (3,770)
                   Total deferred tax asset                           741         1,102

Deferred tax liability - depreciation                                 741         1,102
                                                                 --------      --------
                   Net deferred tax asset                        $    --       $    --
                                                                 ========      ========
</TABLE>


                                      F-11
<PAGE>   33

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     The Company has federal net operating loss carryforwards of $4,143, which
     will begin to expire in the year 2012.

     In assessing the realizability of deferred tax assets, management considers
     whether it is more likely than not that some portion of the deferred tax
     assets will not be realized. As a result of this consideration, a valuation
     allowance of $3,571 and $3,770 was recorded as of December 31, 1999 and
     1998, respectively.

(3)  REVOLVING LINE OF CREDIT

     In the first quarter of 1999, we entered into a $25,000 Revolving Line of
     Credit and Security Agreement (Line of Credit) with PNC Bank, National
     Association, which matures in March 2002. The proceeds were in part used to
     retire a previous revolving line of credit with NationsBank, N.A. The Line
     of Credit is secured by substantially all of the assets of the Company. As
     of December 31, 1999, we had $20,180 outstanding and approximately $900 of
     availability. The credit facility prohibits the payment of dividends to
     common stockholders and contains customary covenants, including limits on
     indebtedness and capital expenditures and a fixed charge ratio minimum.

     Interest is payable on the outstanding balance at a rate of 2.50% above the
     London Interbank Offering Rate (LIBOR) for LIBOR advances (8.64% at
     December 31, 1999) and at the prime rate for the base rate advances (8.50%
     at December 31, 1999). The weighted average interest rates were 8.50%,
     8.44% and 8.34% for 1999, 1998 and 1997, respectively.

(4)  LEASES

     The Company has entered into capital leases for computer equipment and
     furniture and fixtures expiring in various years through 2003. In 1998, the
     Company entered into a $963 capital lease through a sale-lease back
     transaction. Depreciation of assets under capital leases is included in
     depreciation and amortization expense. Interest rates on capitalized leases
     vary from 6.06% to 10.69% and are imputed based on the lower of the
     Company's incremental borrowing rate at the inception of each lease or the
     lessor's implicit rate. Property held under capital leases, which is
     included in property and equipment, at December 31, 1999 and 1998, is
     presented below.

<TABLE>
<CAPTION>
                                                1999              1998
                                              --------          --------
<S>                                           <C>               <C>
    Computer equipment                        $  4,156          $  4,156
    Furniture and fixtures                       2,849             2,849
                                              --------          --------
                                                 7,005             7,005
    Less accumulated amortization                4,661             3,297
                                              --------          --------
                                              $  2,344          $  3,708
                                              ========          ========

</TABLE>


                                      F-12
<PAGE>   34

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     The Company leases office and warehouse distribution space and equipment
     under various noncancellable operating leases with terms from three to ten
     years. Certain of the leases contain renewal options ranging up to five
     years. Total rental expense under operating leases was $2,435, $2,430 and
     $2,126 in 1999, 1998, and 1997, respectively.

     Future minimum lease payments under capital leases and noncancellable
     operating leases, are presented below.

<TABLE>
<CAPTION>
                                                                      Capital          Operating
                                                                      Leases             Leases
                                                                     ---------         ---------
<S>                                                                  <C>               <C>
2000                                                                 $   1,452         $   2,406
2001                                                                       999             2,175
2002                                                                       415             1,962
2003                                                                       142             1,986
2004                                                                        --             1,986
Thereafter                                                                  --             1,238
                                                                     ---------         ----------
Total minimum lease payments                                             3,008         $  11,753
                                                                                       =========
Less amount representing interest                                          331
                                                                     ---------
Present value of net minimum lease payments                              2,677
                                                                     ---------
Less current portion of obligations under capital leases                 1,244
                                                                     ---------
Obligations under capital leases, excluding current portion          $   1,433
                                                                     =========
</TABLE>

(5)  STOCKHOLDERS' EQUITY

     At December 31, 1999, the Company had reserved 1,530,450 shares of common
     stock for future issuances in connection with its stock option plan, stock
     price appreciation plan, employee stock purchase plan, outstanding warrants
     and the directors stock plan.

(6)  STOCK OPTIONS

     In 1992, the Company adopted a stock option plan (the Plan) pursuant to
     which the Company's Board of Directors may grant incentive and nonqualified
     options to officers and key employees. The Plan authorizes grants of
     options to purchase up to 1,500,000 shares (increased from 1,000,000 shares
     in 1998) of authorized but unissued common stock. Stock options are granted
     with an exercise price not less than the stock's fair market value at the
     date of grant. Stock options generally become exercisable and vest at a
     rate of 33% per year from the date of grant and generally carry an
     expiration date of ten years subsequent to the date of grant. At December
     31, 1999, there were 454,500 additional shares available for grant under
     the Plan.


                                      F-13

<PAGE>   35

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     In March 1998, the Compensation Committee of the Board of Directors
     approved a program under which certain option holders canceled their
     existing option agreements in exchange for a new agreement covering a
     reduced number of options with an exercise price of $4.75, the fair market
     value of the Company's common stock at March 1, 1998. The Company cancelled
     agreements covering 460,500 options with exercise prices ranging from $9.00
     to $14.50, in exchange for agreements covering 318,250 options. The new
     option agreements vest over three years.

     The Company applies APB Opinion No. 25, Accounting for Stock Issued to
     Employees, in accounting for the Plan and, accordingly, no compensation
     cost has been recognized for its stock options in the consolidated
     financial statements. Had the Company determined compensation cost based on
     the fair value at the grant date for its stock options since January 1995
     under SFAS No. 123, Accounting for Stock-Based Compensation, the Company's
     net earnings (loss) would be adjusted to the pro forma amounts indicated
     below:

<TABLE>
<CAPTION>
                                                               1999            1998             1997
                                                               ----            ----             ----
<S>                                                           <C>            <C>               <C>
       Net earnings (loss):
          As reported                                         $1,712         $(12,212)         $  106
          Pro forma                                            1,451          (12,364)           (264)

       Earnings (loss) per share as reported:
          Basic                                                 0.31            (2.12)           0.02
          Diluted                                               0.31            (2.12)           0.02

       Earnings (loss) per share-pro forma:
          Basic                                                 0.26            (2.15)          (0.05)
          Diluted                                               0.26            (2.15)          (0.05)

</TABLE>

          The previous table utilized the Black Scholes option-pricing model
     with the following weighted-average assumptions:

<TABLE>
<CAPTION>
                                       1999              1998                1997
                                       ----              ----                ----
<S>                                  <C>             <C>                 <C>

     Expected dividend yield              0%                   0%                  0%
     Expected volatility               56.9%                49.8%               57.7%
     Risk-free interest rate           5.65%         5.53 - 5.65%        5.67 - 6.83%
     Expected life                   4 years              4 years             5 years
</TABLE>


                                      F-14
<PAGE>   36

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     Following is a summary of activity in the Plan during 1999, 1998 and 1997:

<TABLE>
<CAPTION>
                                                             1999                           1998                          1997
                                                           Weighted                       Weighted                      Weighted
                                                           average                        average                        average
                                             1999          exercise         1998          exercise           1997       exercise
                                           Options          price          Options          price          Options        price
                                          ---------      -----------      ---------      -----------       --------     --------
<S>                                       <C>            <C>              <C>            <C>               <C>          <C>
       Outstanding at beginning
          of year                         1,106,750      $      4.85        746,900      $      7.70        630,500      $ 7.75
       Granted                              152,000             3.16      1,024,250             5.31        305,500        9.00
       Exercised                            (20,500)            1.32        (15,500)            2.25        (10,000)       2.25
       Cancelled                           (445,750)            6.94       (648,900)            8.80       (179,100)      10.39
                                          ---------      -----------      ---------      -----------       --------      ------
       Outstanding at end of year           792,500             3.42      1,106,750             4.85        746,900        7.70
                                          =========      ===========      =========      ===========       ========      ======
       Options exercisable at
          year end                          312,384      $      3.24        161,500      $      1.93        275,900      $ 5.64
                                          =========      ===========      =========      ===========       ========      ======
       Weighted average fair
          value of options granted
          during the year                 $    1.38                       $    1.42                        $   3.85
                                          =========                       =========                        ========
</TABLE>

     The exercise price for options outstanding at December 31, 1999, ranged
     from $0.25 to $4.75 and the weighted average remaining contractual life of
     the options was 7.7 years.

(7)  STOCK WARRANTS AND OTHER

     In October 1998, the Company approved a Stock Price Appreciation Plan
     pursuant to which a total of 200,000 shares of the Company's common stock
     became available for issuance to certain employees. This plan was
     terminated as of December 31, 1999.

     In March 1994, the Company issued 100,000 warrants with an exercise price
     of $10.80. Of those warrants, 85,082 were exercised in 1996. The balance of
     the warrants expire in April 2000.

(8)  EARNINGS (LOSS) PER SHARE

     Basic earnings (loss) per share is computed by dividing net earnings (loss)
     by the weighted average number of common shares outstanding during the
     period. Diluted earnings (loss) per share reflects the potential dilution
     that could occur if securities or other contracts to issue common stock
     were exercised or converted into common stock.


                                      F-15
<PAGE>   37

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     The following table sets forth the computation of the basic and diluted
     earnings (loss) per share.

<TABLE>
<CAPTION>
                                                      Years Ended
                                                      December 31
                                        -----------------------------------------
                                           1999           1998             1997
                                        ----------     ----------      ----------
<S>                                     <C>            <C>             <C>
Net earnings (loss)                     $    1,712     $  (12,212)     $      106
                                        ==========     ==========      ==========
Weighted average common shares
   outstanding-basic                         5,503          5,762           5,750
Employee stock options and other                80             --             132
                                        ----------     ----------      ----------
Weighted average common shares
   outstanding-diluted                       5,583          5,762           5,882
                                        ==========     ==========      ==========
Earnings (loss) per share:
   Basic                                $     0.31     $    (2.12)     $     0.02
   Diluted                              $     0.31     $    (2.12)     $     0.02
</TABLE>

     At December 31, 1999 and 1998, 272,418 and 1,121,668, respectively,
     employee stock options and other potentially dilutive securities were
     excluded from the weighted average common shares outstanding diluted
     computation for the years ended December 31, 1999 and 1998 because their
     impact would be anti-dilutive.

(9)  BENEFIT PLANS

     The Company sponsors a defined contribution plan under Section 401(k) of
     the Internal Revenue Code. Employees who have attained the age of 21 and
     completed one full quarter of service are eligible to participate.
     Participation may begin on January 1, April 1, July 1, or October 1
     following the full quarter of service. Eligible employees may contribute
     from 1% to 15% of their annual compensation subject to limitations. The
     Company matches 100% of the first 4% an employee contributes. Employee
     contributions vest immediately while the Company contributions vest 100% at
     the end of the second year of employment. In 1999, 1998 and 1997, the
     Company contributed $711, $543 and $454, respectively.

     In 1996, the Company adopted an Employee Stock Purchase Plan (the "Purchase
     Plan") covering all employees that have attained the age of 21 and
     completed one year of service. Under the Purchase Plan, eligible
     participants may purchase stock of the Company at not less than 85% of its
     market value as of the date the option to purchase is offered to the
     employees; employees have one year to make sufficient contributions to pay
     the exercise price. As of March 1, 2000, 33,968 shares have been issued
     under the Purchase Plan. At March 1, 2000, 66,032 shares were available for
     future issuance.


                                      F-16
<PAGE>   38

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

(10) COMMITMENTS AND CONTINGENCIES

     The Company is subject to various pending and threatened litigation from
     time to time in the ordinary course of business. Although all litigation
     involves some degree of uncertainty, in the opinion of management,
     liabilities, if any, arising from such litigation or threat thereof are not
     expected to have a material adverse impact on the Company's business,
     financial conditions or results of operation.

(11) RESTRUCTURING AND OTHER

     In December 1998, the Company decided to consolidate its west coast repair
     facility into the Irving, Texas facility resulting in restructuring charges
     of approximately $3,000. The charge included $1,700 for the write-off of
     goodwill associated with the west coast operation, $700 for future lease
     commitments, $400 for severance for approximately 40 employees which
     represented substantially all of the employees of the facility and $200 for
     the write-down of fixed assets. Completion of the closure of the west coast
     repair facility occurred in June 1999. During the year ended December 31,
     1999, the company completed its consolidation of its west coast repair
     facility into the Irving, Texas facility. No additional charges were
     incurred. Payments of $561 and $400 related to amounts accrued for future
     lease commitments and severance, respectively, were made during 1999. An
     accrual of $139 for future lease commitments remains as of December 31,
     1999. In addition, the Company recorded a $1,000 charge for severance in
     December 1998 for certain management and administrative personnel. No
     payments were made in 1998. In 1999, $836 was paid, leaving a balance of
     $164.

(12) SEGMENT INFORMATION

     Statement of Financial Accounting Standards No. 131, "Disclosures about
     Segments of an Enterprise and Related Information" requires that a public
     company report annual and interim financial and descriptive information
     about its reportable operating segments. Operating segments, as defined,
     are components of an enterprise about which separate financial information
     is available that is evaluated regularly by key decision makers in deciding
     how to allocate resources and in assessing performance.

     To better focus on market opportunities, we divided the Company into three
     divisions. The divisions are OEM, Service Provider and iService. The OEM
     division provides service logistics outsourcing and support functions to
     the OEMs and ODMs. This includes parts logistics, materials management,
     rapid turnaround desktop and notebook repair and component repair services.
     The Service Provider division provides post-warranty parts services to the
     PC industry which includes spare parts distribution, order logistics, parts
     exchange logistics, parts lifecycle management and inventory risk
     management. Our iService division will leverage the significant investment
     that we have made in technology with PC Parts Net and PC Warranty
     Information Network and will deliver Internet centric service solutions.
     Because they are currently insignificant, the iService results are included
     with the Service Provider division.


                                      F-17
<PAGE>   39

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

     As a result of the decision in 1999 to divide the Company's operations
into three divisions, segment information for each of these divisions for 1999,
1998 and 1997 is presented below. Previously, the Company had only one
reportable segment.

<TABLE>
<CAPTION>
                                                    SERVICE
                                                    PROVIDER         OEM           TOTAL
                                                   ----------     ----------     ----------
<S>                                                 <C>            <C>            <C>
      DECEMBER 31, 1999
         Net revenues                               $  114,215     $   35,592     $  149,807
         Inter-company revenues                            --           4,122          4,122
         Billed margin(1)                               36,958         16,708         53,666
         Depreciation and amortization expense           4,708            625          5,333
         Segment assets(2)                              46,302         24,184         70,486

      DECEMBER 31, 1998
         Net revenues                               $  151,192     $    9,581     $  160,773
         Inter-company revenues                            --           4,930          4,930
         Billed margin(1)                               46,947          3,396         50,343
         Depreciation and amortization expense           4,120            554          4,674
         Segment assets(2)                              54,040          8,942         62,982

      DECEMBER 31, 1997
         Net revenues                               $  129,369     $    2,474     $  131,843
         Inter-company revenues                            --           2,553          2,553
         Billed margin(1)                               41,265            770         42,035
         Depreciation and amortization expense           3,134            370          3,504
         Segment assets(2)                              52,239          2,919         55,158
</TABLE>

(1)  The Company measures billed margin as the selling price less the cost of
     parts and the cost of labor on repair. These other cost of sales items are
     primarily purchasing and distribution expenses, certain facility costs,
     packaging materials, freight and inventory related charges. Historically,
     these expenses were shared by our divisions and, accordingly, the
     allocation by segment is unavailable at this time.

(2) Corporate assets such as deferred taxes and income taxes have been included
    in the Service Provider segment.

(13) QUARTERLY FINANCIAL DATA (UNAUDITED)

<TABLE>
<CAPTION>
                                          First       Second        Third         Fourth
       1999                             Quarter      Quarter      Quarter        Quarter
       ----                             -------      -------      -------        -------
<S>                                     <C>          <C>          <C>            <C>
     Net revenues                       $40,420      $37,450      $36,213        $35,724
     Gross margin                        10,172       10,282        9,393          7,915
     Net earnings (loss)                  1,112        1,195          648         (1,243)
     Earnings (loss) per share:
          Basic                            0.19         0.21         0.12          (0.24)
          Diluted                          0.19         0.21         0.12          (0.24)
</TABLE>


                                      F-18
<PAGE>   40

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

               (In thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                        First       Second      Third     Fourth
       1998                           Quarter      Quarter    Quarter    Quarter
                                      -------      -------    -------    -------
<S>                                   <C>          <C>        <C>        <C>
     Net revenues                     $38,497      $38,309    $42,865    $41,102
     Gross margin                       9,538        7,726      9,908      7,199
     Net earnings (loss)                  168       (2,241)        46    (10,185)
     Earnings (loss) per share:
          Basic                          0.03        (0.39)      0.01      (1.77)
          Diluted                        0.03        (0.39)      0.01      (1.77)
</TABLE>

     The fourth quarter 1998 results include pretax charges totaling $6,400
     related to certain non-recurring items. The major components of the charges
     were: a non-recurring $3,000 charge in connection with the consolidation of
     the repair operations (see note 11), which is included as restructuring
     charges; a $2,200 charge related to severance and other expenses included
     in selling, general and administrative expenses; and a $1,200 charge
     resulting from a review of policies, procedures and methodologies
     undertaken by management, included in cost of revenue. In addition, the
     fourth quarter includes a tax provision of $1,200 which reverses tax
     benefits previously taken, primarily in the second quarter.


                                      F-19
<PAGE>   41

                                   SCHEDULE II

                    PC SERVICE SOURCE, INC. AND SUBSIDIARIES

                        VALUATION AND QUALIFYING ACCOUNTS

                   FOR THE THREE YEARS ENDED DECEMBER 31, 1999

<TABLE>
<CAPTION>
                                                             Additions
                                                             ---------
                                        Balance at    Charged to      Charged                    Balance at
                                        Beginning     costs and      to other                       end
          Description                   of period      expenses      accounts     Deductions     of period
          -----------                   ---------     ----------     --------     ----------     ---------
<S>                                     <C>           <C>            <C>          <C>            <C>
Accounts receivable -
   allowance for doubtful accounts

         1999                             $ 974        $   450          --         $   853(A)      $ 571

         1998                               977          1,257          --           1,260(A)        974

         1997                               384          1,727          --           1,134(A)        977
</TABLE>

     (A) Write-off of uncollectible accounts, net of recoveries.

<TABLE>
<CAPTION>
                                                             Additions
                                                             ---------
                                        Balance at    Charged to      Charged                    Balance at
                                        Beginning     costs and      to other                       end
          Description                   of period      expenses      accounts     Deductions     of period
          -----------                   ---------     ----------     --------     ----------     ---------
<S>                                     <C>           <C>            <C>          <C>            <C>
Inventories -
  reserve for obsolescence

         1999                            $ 6,469        $6,060          --        $8,218(B)       $4,311

         1998                              2,407         6,499          --         2,437(B)        6,469

         1997                              3,218           231          --         1,042(B)        2,407
</TABLE>

     (B) Write down of inventory.


                                      F-20
<PAGE>   42


                                 EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT
NUMBER                                     EXHIBIT
-------                                    -------
<S>                 <C>
3.1+                Restated Certificate of Incorporation of the company

3.2++               Amended and Restated Bylaws of the company

4.1+                Specimen Certificate evidencing Common Stock

4.2v++              Certificate of Designations of Series A Junior Participating
                    Preferred Stock

10.1v++             Revolving Credit and Security Agreement by and among the
                    Company, its subsidiaries and PNC Bank, National
                    Association, as lender and as agent

10.2v++             Stock Option Plan, including form of Stock Option
                    Agreements, as amended

10.3v++             Rights Plan

10.4+v              Director Compensation Plan

10.5v               Employee Stock Purchase Plan

16v+                Resignation of KPMG LLP

21*                 Subsidiaries of the Company

23.1*               Consent of Ernst & Young LLP

23.2*               Consent of KPMG LLP

27*                 Financial Data Schedule
</TABLE>

----------
+    Previously filed as an exhibit to the company's Registration Statement on
     Form SB-2, Registration Number 33-76068-D, initially filed with the
     Securities and Exchange Commission on March 4, 1994, and declared effective
     on March 29, 1994.

++   Previously filed as an exhibit to the company's report on Form 8-K filed
     with the Securities and Exchange Commission on December 9, 1998.

+++  Previously filed as an exhibit to the company's report on Form S-8,
     Registration Number 33-98176, filed with the Securities and Exchange
     Commission on October 17, 1995.

+v   Previously filed as an exhibit to the company's report on Form 10-K for the
     year ended December 31, 1995, filed with the Securities and Exchange
     Commission on March 31, 1996.

v    Previously filed as an exhibit to the company's Registration Statement on
     Form S-1, Registration Number 333-03977, initially filed with the
     Securities and Exchange Commission on May 17, 1996, and declared effective
     on May 28, 1996.

v+   Previously filed as an exhibit to the company's report on Form 8-K filed
     with the Securities and Exchange Commission on June 18, 1998.

v++  Previously filed as an exhibit to the company's report on Form 10-K for the
     year ended December 31, 1998, filed with the Securities and Exchange
     Commission on March 31, 1999.

*    Filed herewith.