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                       SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549

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

                                   FORM 10-K

                 FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO
          SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

                                   (MARK ONE)

[X]  Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
     Act of 1934 for the fiscal year ended January 31, 2001

[ ]  Transition report pursuant to Section 13 or 15(d) of the Securities
     Exchange Act of 1934 for the transition period from           to

                        Commission File Number: 0-26761

                                NETSILICON, INC.
             (Exact name of registrant as specified in its charter)

<TABLE>
<S>                                                 <C>
                  MASSACHUSETTS                                         04-2826579
 (State or other jurisdiction of incorporation or           (IRS Employer Identification No.)
                  organization)

  411 Waverley Oaks Road, Bldg. 227, Waltham, MA                          02452
     (Address of principal executive offices)                           (Zip Code)
</TABLE>

       Registrant's telephone number, including area code: (781) 647-1234

        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

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 the 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.  [X]

The aggregate market value of Common Stock held by non-affiliates of the
registrant at April 23, 2001 was approximately $47,805,300 based upon $3.43 per
share, the last reported sale price of the Common Stock on the Nasdaq National
Market on that date.

The number of shares of the registrant's Common Stock outstanding as of April
23, 2001: 7,064,434 shares of voting common stock and 6,972,656 shares of
non-voting common stock.

                      DOCUMENTS INCORPORATED BY REFERENCE

The registrant intends to file a definitive proxy statement pursuant to
Regulation 14A within 120 days of the end of the fiscal year ended January 31,
2001. Portions of such proxy statement are incorporated by reference into Part
III of this report.
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                                NetSilicon, Inc.

                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
SECURITIES AND EXCHANGE COMMISSION
ITEM NUMBER AND DESCRIPTION                                               PAGE
----------------------------------                                        ----
<S>         <C>                                                           <C>
PART I:
Item 1.     Business....................................................    2
Item 2.     Properties..................................................   23
Item 3.     Legal Proceedings...........................................   23
Item 4.     Submission of Matters to a Vote of Security Holders.........   23

PART II:
Item 5.     Market for the Registrant's Common Stock and Related
              Shareholder Matters.......................................   24
Item 6.     Selected Financial Data.....................................   25
Item 7.     Management's Discussion and Analysis of Financial Condition
              and Results of Operations.................................   26
Item 7a.    Quantitative and Qualitative Disclosures About Market
              Risk......................................................   33
Item 8.     Financial Statements and Supplementary Data.................   33
Item 9.     Changes in and Disagreements with Accountants on Accounting
              and Financial Disclosure..................................   33

PART III:
Item 10.    Directors and Executive Officers of the Registrant..........   33
Item 11.    Executive Compensation......................................   34
Item 12.    Security Ownership of Certain Beneficial Owners and
              Management................................................   34
Item 13.    Certain Relationships and Related Transactions..............   34

PART IV:
Item 14.    Exhibits, Financial Statement Schedules and Reports on Form
              8-K.......................................................   34
</TABLE>

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                                     PART I

ITEM 1.     BUSINESS:

COMPANY OVERVIEW

We develop and market embedded Ethernet networking solutions, which combine
advanced microprocessors and software, to manufacturers building intelligent,
network-enabled devices. Our products provide intelligent devices and embedded
systems with the ability to communicate over standards-based local-area
networks, or LANs, and the Internet, enabling the development of new embedded
systems applications. We believe we offer the first comprehensive solution that,
in conjunction with a physical interface and memory, encompasses all of the
hardware and software necessary to allow intelligent electronic devices
incorporating embedded systems to communicate with other devices. Our customers
are in a broad array of markets including telecommunications and telephony,
industrial automation, office imaging, building automation and control, home
automation, data acquisition, point-of-sale, and wireless access. Our devices
are incorporated into office imaging equipment, including printers, scanners,
fax machines, copiers and multi-function devices manufactured by over 20
manufacturers including Minolta, Ricoh, Sharp and Xerox. Our products are also
in various stages of incorporation into the design and manufacture of other
intelligent devices including power plant automation equipment, medical data
collection and monitoring devices, Internet/Ethernet cameras for security,
voice-over-IP telephones, point-of-sale scanners, scales and teller machines,
networked exercise equipment, and utility measurement and environment monitoring
equipment.

We were incorporated in Massachusetts in April 1984 under the name of Digital
Products, Inc. In September 1996, Sorrento Networks Corporation, formerly Osicom
Technologies, Inc., ("Sorrento"), acquired sole ownership of the Company through
a merger with a newly-formed corporation in exchange for Sorrento common stock
in a transaction accounted for as a pooling of interest. On September 15, 1999,
we completed an initial public offering of our common stock.

INDUSTRY BACKGROUND

An embedded system contains a microprocessor that is part of a larger electronic
system and responds to external events by performing specific tasks quickly,
predictably and reliably. Some examples of products with embedded computers are:

          -       office products such as fax machines, laser printers and
                  photocopiers;

          -       industrial automation equipment such as robots and process
                  control equipment;

          -       building control equipment such as elevator and environmental
                  control systems;

          -       consumer products such as camcorders and video games;

          -       medical instrumentation and imaging systems;

          -       vending machines and automated teller machines; and

          -       vehicle anti-lock brakes and navigation systems.

Many electronic systems incorporating embedded systems run autonomously. They do
not require an operator's constant presence and are often candidates for network
connectivity. Connection to a network affords the operators of these devices the
convenience of controlling or monitoring them remotely. Examples of device
networking can be as simple as a home security company receiving a message that
a door in a subscriber's house is open, or as complex as the control of a
multi-step chemical process in a refinery. Only a small portion of embedded
systems are currently connected to a network, despite the many benefits of
networking, due to the high historical cost of developing network connectivity
solutions for these systems.

The first extensive networking of devices arose from the connection of personal
computers, or PCs, in business environments across LANs and wide-area networks,
or WANs, and in home and mobile environments across

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the Internet. As network connectivity for PCs became more prevalent, so too did
the networking of the imaging devices that printed out, scanned in, faxed and
copied the documents created by those PCs. The primary motivation for networking
imaging devices was cost. A single networked printer could serve an entire
office, whereas without networking, the same office might need a printer for
every work station. Network connectivity for imaging devices was facilitated by
the emergence of networking standards such as Ethernet and the Internet
Protocol, or IP. Imaging device networking solutions, like those that we
manufacture and sell, incorporate those common transmission protocols.

In several markets other than imaging, embedded systems manufacturers have
tended to base their network connectivity solutions upon unique or proprietary
communication protocols. Creating and upgrading networks based on these
proprietary protocols generally has been costly and time consuming for these
manufacturers. In addition, these proprietary networks are generally restrictive
for end users because they are unable or late to gain the benefits of new,
standards-based add-on products and services. These systems, because they are so
difficult to upgrade with standards-based products and software, can often
rapidly lose their effectiveness and become obsolete or uncompetitive.

With the broad acceptance of common networking protocols, such as IP and
Ethernet, embedded systems developers have increasingly attempted to incorporate
standards-based networking into their products. To participate in a common
networking environment, manufacturers and developers have integrated multiple
hardware and software sub-systems commercially available from third-party
vendors, each of which provides a part of the total solution. Adding networking
functionality with components from multiple sources requires the engineering
integration of complex components, including:

          -       a microprocessor;

          -       an Ethernet chip;

          -       a direct memory access, or DMA, controller;

          -       a memory controller;

          -       a TCP protocol stack;

          -       an SNMP agent for management;

          -       a Web server;

          -       a Hypertext Transfer Protocol, or HTTP, server;

          -       a real-time operating system, or RTOS; and

          -       software drivers.

These components must be compatible to enable full networking functionality.
Thus, while multi-sourced networking may be, in specialized cases, superior to
proprietary solutions, developers of systems incorporating multi-sourced
networking functionality must hire sophisticated network engineering teams,
endure lengthy and risky development and integration cycles and incur
substantial technology enhancement and maintenance costs. As an alternative to a
multi-sourced approach, developers have designed standards-based networking
designs in which the embedded system or systems to be networked are connected to
a generic, off-the-shelf, microprocessor-based board. Such designs are
expensive, physically large and impractical for many users.

We believe that historically there have not been cost-effective and practical
alternatives for networking embedded systems. Consequently, end users of most
non-imaging devices have not been able to connect them to networks. Where
developers have added network connectivity to their devices, they have
sacrificed time, effort and expense to create proprietary solutions assembled
from numerous and distinct vendors or board-based designs. As a result, end
users have purchased systems that were either not cost effective or contained
generally rudimentary network connectivity that they could not routinely
upgrade.

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THE NETSILICON SOLUTION

We develop and market integrated hardware and software for manufacturers who
want to build network-ready products. Our NET+Works(TM) family of solutions
integrates network-enabled microprocessors (specialized computer chips), an
operating system, networking software, development tools and high level
technical support. These chips and software are "embedded" by our customers into
their intelligent electronic devices, allowing their products to connect to the
network via Ethernet. Once connected, these products can be managed, serviced,
and accessed from anywhere.

Our Softworks Group develops and licenses software that is embedded into
Internet appliances and other devices to enable Internet and Web-based
communications.

We design our products to provide our customers with an integrated, easy-to-use,
standards-based solution that aims to lower development risk, accelerate
time-to-market and reduce cost of ownership. We have 17 years of experience
providing networking connectivity for a wide array of electronic devices.

We believe that our products offer manufacturers of intelligent, network-enabled
devices and embedded systems developers a compelling solution because our
products are:

          -       STANDARDS-BASED.  Our products incorporate existing LAN, WAN
                  and Internet networking standards. These standards make it
                  possible for electronic devices incorporating embedded systems
                  to communicate with other standards-based equipment, enabling
                  the free exchange of data, distributed processing and remote
                  maintenance.

          -       COMPREHENSIVE.  We offer a comprehensive set of products that,
                  in conjunction with a physical interface and memory,
                  consolidates the hardware and software necessary to network
                  electronic devices in a single solution. In addition, we offer
                  manufacturers of intelligent, network-enabled devices and
                  embedded systems developers a package of development tools and
                  application engineering services to facilitate a reduced
                  time-to-market for their network-ready products. Manufacturers
                  that incorporate our products do not need to develop in-house
                  networking expertise in order to offer advanced connectivity
                  in their products. Furthermore, manufacturers incorporating
                  our products into their designs do not need to acquire
                  networking hardware or software from multiple third-party
                  vendors and perform the associated highly complex and lengthy
                  integration and maintenance.

          -       SCALABLE AND EXTENSIBLE.  We based the NET+Works technology on
                  a design platform that allows networking extensibility across
                  a wide range of hardware platforms and performance levels. Our
                  customers can achieve scalability through a design that allows
                  us to offer pin-compatible semiconductor devices from 5
                  million instructions per second, or MIPS, to 40 MIPS
                  performance levels. Consequently, developers can incorporate
                  varying performance levels into their products without
                  redesigning the hardware or reprogramming the software.

          -       PROVEN.  Since our inception, we have focused our efforts on
                  enabling the connection of electronic devices to networks. Our
                  technology embodies refinements and enhancements developed
                  during our years of service to manufacturers of intelligent,
                  network-enabled devices and embedded systems developers. Our
                  semiconductor devices are incorporated into a broad array of
                  office imaging products, including printers, scanners, fax
                  machines, copiers and multi-function devices manufactured by
                  over 20 manufacturers, including Minolta, Ricoh, Sharp and
                  Xerox and into a growing number of other intelligent devices.

BUSINESS STRATEGY

Our objective is to continue to expand our market position as a developer and
supplier of networking products for intelligent devices. Key elements of our
strategy include the following:

          -       IDENTIFYING AND PENETRATING GROWING INTELLIGENT DEVICE
                  MARKETS.  The total available market for embedded networking
                  systems is comprised of OEMs producing electronic

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                  devices in multiple market segments that each have their own
                  combinations of manufacturers, developers and end users. We
                  target those embedded systems markets where we estimate that
                  the compelling mainstream need for network connectivity has
                  developed or is developing rapidly. For example, we have
                  identified the industrial automation market as one in which
                  manufacturers have demonstrated early demand for our
                  networking products -- comprehensive networking solutions
                  incorporating specialized industry-specific applications. Our
                  ability to penetrate other market segments results from the
                  basic design of our semiconductor devices, specifically their
                  suitability for incorporation into a very wide range of
                  embedded systems with minimal additional research or product
                  development expenses. We evaluate each new target market
                  opportunity based upon four criteria: significant potential
                  sales of our products within three to five years; a
                  demonstrable compelling benefit from network connectivity with
                  the absence of a widely accepted network connectivity
                  architecture; compatibility with our sales and marketing
                  channels; and ease of adaptability to our existing technology.

          -       EXPANDING EXISTING CUSTOMER RELATIONSHIPS IN THE IMAGING
                  SEGMENT.  Over 20 manufacturers in the imaging industry have
                  incorporated our networking products. Our customers have
                  designed our products into a broad array of office imaging
                  products, including printers, scanners, fax machines, copiers
                  and multi-function devices. Manufacturers currently are
                  commercially shipping over 50 imaging products incorporating
                  our semiconductor devices. In addition, many of these
                  manufacturers are in various stages of designing other
                  products that will incorporate our NET+Works products. We seek
                  to leverage our existing relationships with manufacturers by
                  working closely with them to understand their evolving
                  requirements and to meet them. In addition, we focus our
                  efforts on obtaining design wins with those companies in the
                  imaging industry that do not currently incorporate our
                  semiconductor devices.

          -       LEVERAGING EMERGING TECHNOLOGIES.  We believe that by adopting
                  new technological developments in our industry, we will be
                  better positioned to take advantage of new market
                  opportunities. We expect to continue to invest in new
                  technological developments and innovation. These developments
                  include improved hardware performance, enhanced intelligent
                  networking software for routing protocols and network
                  applications, continued incorporation of the Java programming
                  language and Linux operating system in our products and
                  development environment, a new high-performance printer
                  controller and evolving wireless connectivity technology and
                  other technologies including Universal Plug and Play and XML.

                  We believe we need to continue to strengthen our value
                  proposition by expanding our product line with lower cost
                  products as well as higher performance semiconductors. In
                  addition we will continue to make our software and tools
                  easier to use and install.

          -       EXPANDING WORLDWIDE DISTRIBUTION CHANNELS.  We continue to
                  expand our worldwide sales and marketing channels to
                  capitalize on intelligent device market opportunities in key
                  geographic areas including Japan, the Far East and Europe. In
                  February 2001, we acquired Dimatech Corporation of Tokyo,
                  Japan, a company that had previously distributed our products
                  in Japan. We also continue to forge relationships with leading
                  distributors in Europe and the Far East.

          -       DEVELOPING MARKET-SPECIFIC PRODUCTS AND FEATURES.  We intend
                  to bolster our competitive position within the markets we
                  target by incorporating value-added functions and features
                  into our products that are specifically tailored to the unique
                  requirements of each market. We believe that this approach to
                  product development increases the attractiveness of our
                  NET+Works products over more generic, less function-rich
                  alternatives.

          -       DEVELOPING STRATEGIC RELATIONSHIPS.  To facilitate our
                  penetration of new intelligent device markets, we intend to
                  leverage the capabilities and market presence of our customers
                  and
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                  strategic partners. In June 1998, we joined with industrial
                  automation companies to create the Industrial Automation Open
                  Network Alliance. The alliance was founded to promote a
                  standards-based approach to networking for industrial
                  automation, and to focus on overcoming obstacles to its rapid
                  adoption. The alliance now has over 50 and 100 members in the
                  United States and Europe, respectively, and we believe that by
                  taking a leading role in the growth of the alliance we will
                  further establish our products in industrial automation
                  markets. We have also established relationships with companies
                  addressing both Linux and Java for intelligent device
                  applications to more rapidly address these technologies,
                  including a partnership with Red Hat, Inc. to deliver open
                  source products and services to manufacturers of Ethernet and
                  Internet-attached devices and we have partnered with industry
                  leaders to jointly develop new products, including the NET+Zj
                  network printer controller that was developed with
                  Zenographics, Inc. during 2000. In addition, we seek to
                  establish relationships with developers that will be early
                  adopters of networking technology because we anticipate that
                  these developers will have significant influence in
                  determining the network connectivity standards within that
                  market. We plan to develop our products in conjunction with
                  these early adopters, and to position our products as the
                  networking products of choice for each intelligent device
                  market we choose to address.

PRODUCTS AND SERVICES

Our technology solution is comprised of products and services. Our NET+Works
products offer an integrated solution for intelligent networked devices. This
"solution-on-chip" approach combines a core microprocessor, network connectivity
interfaces, operating system and networking software, development tools and
technical service and support. Our products are sold as a complete system and
include both the hardware and a license to use the full array of our software.
We believe our NET+Works products, in conjunction with a physical interface and
memory, provide all of the functionality needed to implement Internet and
Ethernet connectivity. Furthermore, we believe our integrated products allow our
customers to accelerate their time-to-market, reduce development risk, and
benefit from lower total cost of ownership compared to alternative approaches,
without sacrificing system performance or increasing the amount of memory
required.

Our NET+Works development tool kit includes the hardware and software necessary
to enable device intelligence and network connectivity and is accompanied by
documentation and optional technical support and hardware design review
services.

We also develop and license a suite of standards-based software products that
are embedded into Internet appliances and other devices to enable Internet and
Web-based communications. We believe these products, which include Internet,
routing and application protocols, provide the functionality, performance and
flexibility to build embedded networking into intelligent devices using a
variety of platforms.

Hardware Products

Our NET+Works products include our NET+ARM semiconductor device containing core
microprocessors from ARM Holdings plc ("ARM") along with network connectivity
interfaces. Customers incorporate our semiconductor devices directly into their
embedded systems or integrate them into a network interface card, or NIC. A
complete design also requires a physical interface and memory. In our imaging
markets, while many of our customers are integrating our NET+Works products into
their controllers, the majority of our sales to imaging customers consist of
NET+Works products contained in network interface controllers.

Our NET+ARM semiconductor devices operate at speeds of 33 and 44 MHz. We believe
that the price at which our NET+ARM semiconductor devices are available to
customers provides significant cost savings to currently available components
with comparable functionality. The product's processing speed is enhanced by
NET+DMA, an interface between the Ethernet MAC, or media access controller, and
the main memory bank. We have filed a patent application for NET+DMA.

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Software

Our NET+Works products include a suite of software integrated with the NET+ARM
semiconductor device. The software includes:

          -       NET+Drivers and RTOS. NET+Drivers and RTOS components are the
                  basic pieces that operate the hardware and software. We offer
                  a NET+OS platform based on the ThreadX RTOS and the NET+Lx
                  platform based on the open source Linux operating system and
                  we support two popular third-party commercial offerings: pSOS+
                  and VxWorks from Wind River. NetSilicon's drivers are fully
                  integrated and supported by the RTOS and tools.

          -       NET+Protocols. NET+Protocols contain the open standard
                  communications protocols such as the Internet transmission
                  protocols.

          -       NET+Services. NET+Services add the necessary Internet standard
                  networking services for Web server, email, data transfer,
                  installation and management services.

          -       NET+APIs. NET+APIs provide the needed access to the RTOS and
                  NET+Services for applications software engineers without
                  having to attain networking engineering knowledge.

An important component of our strategy is to leverage our NET+ARM semiconductor
devices by adding application-specific software that is focused on the unique
needs of vertical industry markets. Our first customized vertical-market
application is a set of embedded networking products designed for office imaging
devices, such as printers, copiers, faxes, scanners and multifunction devices.
This product uses the same core technology found in our NET+ARM semiconductor
devices and adds NET+Applications software developed by us specifically for use
in imaging devices. Our NET+Works products for the imaging market offer full
networking operating system support, full print server applications and
management capabilities. The management capabilities enable devices to report
status messages, such as toner low or paper jam to network administrators via
email cross a LAN, WAN or the Internet. It is available for installation
directly on the controller board, eliminating the need for a separate NIC.

For our imaging customers, we also offer software to enable connection and
communication with embedded controllers over a variety of interface
specifications. Our DPO interface specification is an open-architecture
specification designed by us and licensed to controller designers and imaging
device manufacturers. The DPO interface can function with networks comprised of
multiple protocols and operating systems, including Novell NetWare, AppleTalk,
UNIX, IP and Windows NT. In addition, the DPO interface meets the networking
functionality standard established by Hewlett-Packard, enabling our customer to
offer similar networking functionality to Hewlett-Packard. PSIO is an interface
specification that we license from Peerless Systems Corp. so that our products
can interface with controllers provided by Peerless. We also offer a PCI
interface specification to simplify and reduce the cost of PCI applications.

We offer a software-only version of our NET+Works products, called NET+Software,
to our imaging customers. NET+Software offers the same functionality as the
network interface card and embedded product. NET+Software has been designed to
run on the controller's processor, thus saving cost. We provide a complete range
of products by offering NET+Works as a network interface card, semiconductor
device with software or as a software-only product.

Our suite of software products includes embedded Internet and Web protocols and
applications which include support for Internet, Web, network management,
routing and LAN communications. Our FUSION(TM) line of embedded network
protocols are independent of microprocessors, operating systems and development
tools and therefore can be integrated into a wide range of system designs.

Software Development Tools

We sell our NET+ARM semiconductor devices to developers with a set of integrated
NET+Utilities and tools for hardware and software development, many of which, we
believe, are unique to us. These include our

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NET+Web, a Hypertext Markup Language, or HTML-to-C compiler which customers can
use to automate the generation of HTML Web pages.

We also provide customers with development boards, including schematics. These
boards assist hardware and software application developers in debugging their
product-specific applications they port to and develop on NET+ARM semiconductor
devices. Developers also receive an embedded in-circuit emulator, or ICE,
debugging tool to enable testing and evaluation of hardware and their software
after it has been ported to NET+ARM semiconductor devices. Developers may, if
desired, obtain cross-compilers, linkers and symbolic debuggers from us, or the
RTOS vendor. Full documentation provided to developers includes a guide to
beginning the design cycle, hardware and software reference manuals, development
board jumpers and a components guide.

The development tools also include additional cost options such as Greenhills,
Inc.'s development tools and Wind River's pRISM+ or Tornado open, graphical
development environments. Wind River's pRISM+ and Tornado support embedded
developers with tools that span the complete development process, from
conception to development and through life cycle support.

Before customers incorporate our semiconductor devices into the design of their
product, they may purchase some sample semiconductor devices and software. They
use the samples to create custom application programming interfaces and other
software components of the ultimate networking design of their embedded systems.

Application Engineering and Support Services

We place significant emphasis on customer support, training and consultation. We
provide a hardware design review in the early stages of the customer's design
cycle. This design review helps customers avoid common hardware implementation
problems by providing an independent technical review of their hardware design
before the design is completed. Additionally, we provide full technical support
for all development tools, including hardware, software and embedded products,
for the first 12 months after product shipment. Our support and training
services include:

          -       Consulting. Our field application engineering staff provides
                  development process consulting services that range from
                  answering questions to assisting in problem solving and
                  performing design reviews of customer products.

          -       On-going Technical Support. Post-integration support typically
                  includes beta test period support and assistance to the
                  customer's support specialists.

          -       Product Updates. We provide product updates on all releases of
                  NET+Works products to developers initially under maintenance
                  and subsequently on an optional service and maintenance
                  contract basis.

          -       Training. We provide hands-on training sessions during which
                  we teach developers to install both our hardware and software
                  products, set up and configure all network operating systems
                  and protocols, and understand Ethernet topology. For our
                  imaging customers, we also provide some training of their
                  support staff.

          -       Joint Marketing Assistance. We make joint sales calls with our
                  customers and authorized developers, provide marketing
                  materials, participate in the organization of press releases
                  and tours, and create Web links to customer product pages.

          -       Project Management. We provide our imaging customers with
                  assistance in interface specifications analysis, lead time
                  planning, delivery scheduling, and product cycle planning.

          -       Product Integration Support. We provide our customers with
                  product testing and support during the customer's development
                  process of integrating our technology into their products.

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A portion of the revenue from sales of development tools is allocated to the
hardware design review and technical support services that typically accompany
the sale of development kits. Technical support, maintenance, training,
consulting, project management and other engineering and support services can
also be contracted separately.

PRODUCT DEVELOPMENT

Our success depends upon our ability to enhance our products, and develop and
introduce new products to meet changing customer needs on a timely basis. We
focus our hardware development efforts on improving the performance of our
products, simplifying the integration process for our products and introducing
new products with a variety of speeds, capabilities and price points. We focus
our software development efforts on addressing industry needs, developing
industry-specific applications and integrating additional operating systems and
protocols into our products.

We have made, and expect to continue to make, substantial investments in product
development. For example, we continue to invest resources in the development of
products supporting the Linux operating system and Java programming language, to
improve hardware performance and to enhance intelligent networking software. For
the fiscal years ended January 31, 2001, 2000 and 1999, our engineering,
research and development expenses were approximately $7.1 million, $3.1 million
and $1.9 million, respectively or 18.9%, 9.7% and 14.3% of net sales,
respectively. As of January 31, 2001, we had 53 full-time employees who have
substantial networking and software driver development experience engaged in
research and development activities.

SALES AND MARKETING

We market and sell our products to embedded systems manufacturers and developers
through a combination of:

          -       our direct sales and marketing staff;

          -       selected distributors;

          -       strategic partner relationships and alliances;

          -       manufacturers representatives; and

          -       authorized developers.

Direct Sales and Marketing

As of January 31, 2001, we employed a total of 47 employees in our direct sales
and marketing efforts. We manage most of our sales efforts from our headquarters
in Waltham, Massachusetts and a sales office in Germany. Our direct sales staff
solicits prospective customers, provides technical advice and support with
respect to our products, and works closely with our partners, representatives
and developers worldwide to secure new customer design wins and provide support
during their development of new products. The direct sales and marketing staff
participates in select industry trade shows and conferences to promote our
products and to generate new business leads.

We design our marketing programs to build awareness of NetSilicon and NET+Works,
and to generate new sales leads. Our primary marketing activities include
advertising, direct mail, customer communications, trade show participation, and
press, media and industry analyst relations.

Partnership Relationships and Alliances

We augment our direct sales efforts through various strategic marketing
alliances. These include, in the imaging market, alliances with the makers of
printer controllers, and in other intelligent device markets, alliances with our
vendors, suppliers and partners, such as ARM, Atmel Corporation, Wind River
Systems,

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Inc., Esmertec, Inc., and Red Hat, Inc. Our strategy for making sales to imaging
manufacturers is to have our DPO interface specification incorporated into the
controllers that those manufacturers purchase from controller designers. We
encourage the use of our interface because every imaging device that uses a
controller incorporating it will also use our networking connectivity products.
Printer controller designers that have incorporated our DPO interface
specification include Adobe Systems, Advanced HiTech, Destiny Technology,
Imaging Technologies and Xionics Document Technologies.

In June 1998, we joined with industrial automation companies to create the
Industrial Automation Open Network Alliance. The alliance was founded to promote
a standards-based approach to networking for industrial automation, and to focus
on overcoming obstacles to its rapid adoption. The alliance now has over 50 and
100 members in the United States and Europe, respectively, and we believe that
by taking a leading role in the growth of the alliance we will further establish
our products in industrial automation markets. We have also established
relationships with companies addressing both Linux and Java for embedded market
applications to more rapidly address these technologies.

We and our printer controller partners engage in joint marketing efforts,
presenting their individual products as a fully compatible, comprehensive
imaging and networking solution to imaging manufacturers.

Manufacturers Representatives

Manufacturers representatives act as local sales agents for us and work on a
commission basis. As of January 31, 2001, there were eight manufacturers
representatives in North America, three in Europe and Israel, and one in Asia.
Our direct sales staff supports and works closely with these representatives,
who have extensive relationships with the current and potential customers in
their territories.

Authorized Developers

We also market and sell our products in coordination with independent product
development consulting firms. These firms have hardware and software engineering
staffs ranging from five to 100 engineers. They consult with large
manufacturers, recommending new products for development and offering their
expertise to manufacturers during the design cycle of those products. Where
network connectivity is contemplated for such products, we provide incentives to
these developers to recommend our products by paying the developers a commission
on our sales to manufacturers that result from these recommendations. As of
January 31, 2001, we had approved 35 consulting firms as authorized developers
of our products.

CUSTOMER PRODUCT CYCLE

Our products are sold to manufacturers, which incorporate them into devices that
are sold to end users. The timing and magnitude of our revenues are highly
dependent upon our achievement of design wins, the timing and success of our
customers' development cycles, and our customers' product sales.

We initially target manufacturers that are developing intelligent devices and
embedded systems products and are seeking to incorporate networking capability
into their products. Manufacturers and developers typically select core
components, such as our semiconductor devices, early in the device design
process. Before the selection of core components, developers typically purchase
development tools and receive application-engineering services from us to
facilitate the integration of NET+Works products into their design. When we have
received notification from a customer that they have selected our devices and
software for incorporation into their final product, we achieve what is known as
a design win. Once a customer selects the components it will use for our
product, it generally does not substitute an alternative component, as the
change typically requires significant cost or development time. Therefore, we
are generally the sole supplier of networking technology throughout the life
cycle of an intelligent device once our products have been selected for
inclusion in the product design. Even if we are successful in our efforts to
market our products to manufacturers and achieve a design win, there can be no
assurance that we will ever achieve revenue from the sale of products. Even if
we do achieve revenues from the sales, there can be no assurance that the
revenues will be sustainable.

                                        10
<PAGE>   12

The length of the product development process can vary greatly among our
customers, ranging from six to more than 24 months, with no certainty that any
given design will result in a commercial product. When the customers' product
development cycle nears successful completion, customers typically begin
purchasing our products to supply their initial manufacturing efforts. Only upon
the commencement of product shipment do we achieve significant revenues.
Customers then typically purchase quantities of our products periodically to
match their ongoing manufacturing needs, based on their demand requirements.
Sales of our products are therefore dependent upon the sales of the customers'
products into which customers have designed them.

The following is a summary of our shipping customer activity over the prior
eight quarters:

<TABLE>
<CAPTION>
                                                                         THREE MONTHS ENDED
                                        -------------------------------------------------------------------------------------
                                        APR. 30,   JULY 31,   OCT. 31,   JAN. 31,   APR. 29,   JULY 29,   OCT. 28,   JAN. 31,
                                          1999       1999       1999       2000       2000       2000       2000       2001
                                        --------   --------   --------   --------   --------   --------   --------   --------
<S>                                     <C>        <C>        <C>        <C>        <C>        <C>        <C>        <C>
Shipping customers(1):
Imaging market........................     22         22         22         22         22         23         23         23
Additional intelligent device
  markets.............................      5          8          8         21         24         40         51         56
                                           --         --         --         --         --         --         --         --
Total.................................     27         30         30         43         46         63         74         79
                                           ==         ==         ==         ==         ==         ==         ==         ==
</TABLE>

---------------
(1) Represents the number of customers to which we shipped products during the
    period indicated.

CUSTOMERS

We sell our products for incorporation into manufacturers' devices.
Representative customers who incorporated our products into their devices using
our technology include:

<TABLE>
<CAPTION>
IMAGING CUSTOMERS                                       INTELLIGENT DEVICE CUSTOMERS
-----------------                                       ----------------------------
<S>                                             <C>
Kyocera Communications                          ABB Automation Products GmbH
Konica Business Systems                         Adept Systems, Inc.
Minolta Corporation                             GE Fanuc Automation, Inc.
NEC Corporation                                 Lantronix, Inc.
Ricoh Electronics                               NCR Corporation
Sharp Electronics Corporation                   Nortel Networks Corporation
Xerox Corporation                               Phoenix Contact GmbH
</TABLE>

Our 23 imaging customers have designed our products into more than 50 imaging
products available for sale as of January 31, 2001. 79% of our net sales for the
fiscal year ended January 31, 2001 and 95% of our net sales for the fiscal years
ended January 31, 2000 and 1999 were derived from the imaging device market.
Sales to Ricoh and Dimatech each represented greater than 10% of our net sales
for the fiscal year ended January 31, 2001.

MANUFACTURING

We do not maintain our own manufacturing capabilities for our semiconductor
devices, but rely on third parties to provide foundry capabilities. We engage
Atmel Corporation to manufacture the NET+ARM semiconductor device. Shipments of
the semiconductor device are first delivered to us, where we perform quality
assurance testing. We purchase tested, packaged chips from Atmel. We do not have
a written agreement with Atmel regarding production, relying instead upon
standard purchase orders. We have selected an additional manufacturer to supply
new NET+ARM devices. Additionally, we obtain price quotes from possible second
sources for semiconductor devices in order to ensure that we are receiving
competitive price terms from our current manufacturer.

We contract with domestic qualified assemblers and with Semiconductor Ventures
International Company ("SVI"), based in Thailand, to assemble printed circuit
boards for our NICs. We perform some final assembly of printed circuit boards
and, for quality assurance purposes, randomly test boards assembled by

                                        11
<PAGE>   13

third parties. We believe that the terms of our arrangement with SVI are more
favorable than we would receive from our domestic assemblers.

As of January 31, 2001, we had 25 full-time employees in Waltham, Massachusetts
performing manufacturing-related activities, including purchasing, final
assembly, testing, quality assurance, packaging and shipping.

PRODUCT BACKLOG

Our business is characterized by short-term shipment schedules. Our backlog at
the beginning of each quarter typically is not sufficient to achieve expected
sales for the quarter. To achieve our sales objectives, we are dependent upon
obtaining orders during each quarter for shipment that quarter. Furthermore, our
agreements with our customers typically provide that they may change delivery
schedules. Non-imaging customers can cancel orders within specified time frames,
typically 30 days or more prior to the scheduled shipment date under our
policies, without significant penalty. In the past, our customers have built,
and may in the future build, significant inventory in order to facilitate more
rapid deployment of anticipated major products, or for other reasons. Decisions
by these customers to reduce their inventory levels have led, and in the future
could lead, to reductions in purchases from us. These reductions, in turn, have
caused and could cause fluctuations in our operating results, which could have a
material adverse effect on our business, results of operations and financial
condition in periods in which the inventory is reduced.

As of January 31, 2001, our backlog was approximately $3.4 million, as compared
to $6.0 million as of January 31, 2000. We include all firm purchase orders
scheduled for delivery within the subsequent 12 months in our backlog. We
anticipate that we will ship all of our backlog to customers within the next 12
months.

COMPETITION

The markets in which we operate are intensely competitive, and characterized by
rapidly changing technology, evolving industry standards, declining average
selling prices and frequent new product introductions. A number of companies
offer products that compete with one or more elements of our solution. We
believe that the competitive factors affecting the market for our products
include:

          -       product performance, price and quality;

          -       product functionality and features;

          -       the availability of products for existing and future
                  platforms;

          -       the ease of integration with other hardware and software
                  components of the customer's products; and

          -       the quality of support services, product documentation and
                  training.

The relative importance of each of these factors depends upon the specific
customer involved. There can be no assurance that we will be able to compete
successfully against current and future competitors, or that competitive factors
we face will not have a material adverse effect on us.

INTELLECTUAL PROPERTY, TRADEMARKS AND PROPRIETARY RIGHTS

Our ability to compete is dependent in part on our proprietary rights and
technology. We have no patents and rely primarily on a combination of copyright,
trademark laws, trade secrets, confidentiality procedures and contract
provisions to protect our proprietary rights. We generally enter into
confidentiality agreements with our employees, and sometimes with our customers
and potential customers and limit access to the distribution of our software,
hardware designs, documentation and other proprietary information. There can be
no assurance that the steps we take in this regard will be adequate to prevent
the misappropriation of our technology. While we have filed two patent
applications and plan to file various additional applications, such applications
may be denied. Any patents, once issued, may be circumvented by our competitors.
Furthermore, there can be no assurance that others will not develop technologies
that are superior to ours. Despite our efforts to protect our proprietary
rights, unauthorized parties may attempt to copy aspects of our products or to
                                        12
<PAGE>   14

obtain and use information that we regard as proprietary. In addition, the laws
of some foreign countries do not protect our proprietary rights as fully as do
the laws of the United States. There can be no assurance that our means of
protecting our proprietary rights in the United States or abroad will be
adequate or that competing companies will not independently develop similar
technology. Our failure to protect our proprietary rights adequately could have
a material adverse effect on our business, results of operations and financial
condition.

We also rely on certain software that we license from third parties, including
software that we integrate with internally developed software and use in our
products to perform important functions. These software license agreements are
with:

          -       Express Logic, Inc., which terminates only if we default under
                  the agreement;

          -       InterNiche Technologies, Inc., which renews until terminated
                  by either party;

          -       Novell, Inc., which is renewable annually at the option of
                  both parties;

          -       Peerless Systems Corporation, which expires in 2004 subject to
                  year-to-year renewals thereafter until terminated by either
                  party.

          -       Wind River Systems, Inc., which terminates only if we default
                  under the agreement;

          -       Allegro Software Development Corporation, which terminates
                  only if there is a material breach of the agreement by either
                  party.

These third-party software licenses may not continue to be available to us on
commercially reasonable terms, and the licensors may not continue to support,
maintain or enhance the software appropriately. The loss of licenses to use, or
the inability of licensors to support, maintain and enhance any of such
software, could result in increased costs, delays or reductions in product
shipments until equivalent software is developed or licensed, if it can be, and
integrated.

We exclusively license the right to use the NET+ARM trademark from ARM Limited
according to a royalty-free agreement expiring in 2008. We depend on ARM to
enforce our rights to the trademark against third-party infringement. There can
be no assurance that ARM will promptly and adequately enforce the rights, which
could have a material adverse effect on our business, results of operations and
financial condition.

EMPLOYEES

As of January 31, 2001, we had 148 full-time employees, which included 78
engaged in product development and manufacturing-related duties and 47 in sales
and marketing. We believe our future success will depend, in part, on our
continued ability to attract and retain highly qualified personnel in a
competitive market for experienced and talented software engineers, chip
designers and sales and marketing personnel. None of our employees are
represented by a labor union or subject to a collective bargaining agreement. We
believe that our relations with employees are good.

RISK FACTORS

You should carefully consider the following risks before investing in our common
stock. These are not the only risks facing our company. Additional risks may
also impair our business operations. If any of the following risks come to
fruition, our business, results of operations or financial condition could be
materially adversely affected. In that case, the trading price of our common
stock could decline, and you may lose all or part of your investment.

You should also refer to the other information set forth in this report, and
incorporated by reference, including our financial statements and the
accompanying notes.

This report contains certain "forward-looking statements" (statements that are
not historical fact) based on our current expectations, assumptions, estimates
and projections about our company and our industry. These forward-looking
statements involve risks and uncertainties. Our actual results could differ
materially from

                                        13
<PAGE>   15

those anticipated in those forward-looking statements as a result of many
factors, as more fully described in this section and elsewhere in this report.

WE HAVE A HISTORY OF LOSSES AND AN ACCUMULATED DEFICIT THAT MAKE FUTURE
OPERATING RESULTS AND PROFITABILITY DIFFICULT TO PREDICT.

We incurred net losses from continuing operations for the fiscal years ended
January 31, 1997, 1998, 1999 and 2001. At January 31, 2001, we had an
accumulated deficit of $3.6 million. There can be no assurance that we will be
able to achieve profitability on a quarterly or annual basis in the future. In
addition, revenue growth is not necessarily indicative of future operating
results and there can be no assurance that we will be able to sustain revenue
growth. We continue to invest significant financial resources in product
development, marketing and sales, and a failure of such expenditures to result
in significant increases in revenue could have a material adverse effect on us.
Due to the limited history and undetermined market acceptance of our new
products, the rapidly evolving nature of our business and markets, potential
changes in product standards that significantly influence many of the markets
for our products, the high level of competition in the industries in which we
operate and the other factors described elsewhere in Risk Factors, there can be
no assurance that our investment in these areas will result in increases in
revenue or that any revenue growth that is achieved can be sustained. Our
history of losses, coupled with the factors described below, make future
operating results difficult to predict. We and our future prospects must be
considered in light of the risks, costs and difficulties frequently encountered
by emerging companies. As a result, there can be no assurance that we will be
profitable in any future period.

THE UNPREDICTABILITY OF OUR QUARTERLY RESULTS MAY ADVERSELY AFFECT THE TRADING
PRICE OF OUR COMMON STOCK.

Our net sales and operating results have in the past and may in the future
fluctuate substantially from quarter to quarter and from year to year. These
results have varied significantly due to a number of factors, including:

          -       market acceptance of and demand for our products and those of
                  our customers;

          -       unanticipated delays or problems in the introduction of our
                  products;

          -       the timing of large customer orders;

          -       the timing and success of our customers' development cycles;

          -       our ability to introduce new products in accordance with
                  customer design requirements and design cycles;

          -       new product announcements or product introductions by us and
                  our competitors;

          -       availability and cost of manufacturing sources for our
                  products;

          -       the volume of orders that are received and can be filled in a
                  quarter;

          -       the rescheduling or cancellation of orders by customers;

          -       changes in product mix;

          -       timing of "design wins" with our customers and related
                  revenue; and

          -       changes in currency exchange rates.

Our operating results could also be harmed by:

          -       the growth rate of markets into which we sell our products;

          -       changes in the mix of sales to customers and sales
                  representatives;

          -       costs associated with protecting our intellectual property;
                  and

          -       changes in product costs and pricing by us and our
                  competitors.

                                        14
<PAGE>   16

We budget expenses based in part on future revenue projections. We may be unable
to adjust spending in a timely manner in response to any unanticipated declines
in revenues.

As a result of these and other factors, investors should not rely solely upon
period-to-period comparisons of our operating results as an indication of future
performance. It is likely that in some future period our operating results or
business outlook will be below the expectations of securities analysts or
investors, which would likely result in a significant reduction in the market
price of the shares of common stock.

OUR FAILURE TO INCREASE SALES TO MANUFACTURERS OF INTELLIGENT, NETWORK-ENABLED
DEVICES AND OTHER EMBEDDED SYSTEMS WILL ADVERSELY AFFECT OUR FINANCIAL RESULTS.

Our financial performance and future growth is dependent upon our ability to
sell our products to manufacturers of intelligent, network-enabled devices and
other embedded systems in various markets, including markets in which networking
solutions for embedded systems have not historically been sold, such as the
industrial automation equipment, data acquisition and test equipment, Internet
devices and security equipment markets. A substantial portion of our recent
development efforts have been directed toward the development of new products
for markets that are new and rapidly evolving. There can be no assurance that:

          -       the additional intelligent device markets targeted by us for
                  our products and services will develop;

          -       developers within each market targeted by us will choose our
                  products and services to meet their needs;

          -       we will successfully develop products to meet the
                  industry-specific requirements of developers in our targeted
                  markets or that design wins will result in significant sales;
                  or

          -       developers in our targeted markets will gain market acceptance
                  for their devices which incorporate our products.

We have limited experience in designing our products to meet the requirements of
developers in these industries. Moreover, our products and services have, to
date, achieved limited acceptance in these industries.

WE ARE DEPENDENT ON THE IMAGING MARKET FOR A LARGE PORTION OF OUR REVENUES.

The imaging market has historically accounted for substantially all of our
revenues. In the fiscal years ended January 31, 2001, 2000 and 1999, 79%, 95%
and 95%, respectively, of our revenues were generated from customers in the
imaging market. Our success has been and continues to be dependent on the
continued success of the imaging market. Many of our customers face competition
from larger, more established companies which may exert competitive or other
pressures on them. Any decline in sales to the imaging market would have a
material adverse effect on our business, results of operations and financial
condition.

Due in part to an economic slowdown affecting our imaging customers, we
anticipate a decline in imaging revenue growth in fiscal year 2002 which will
adversely affect our results of operations and financial condition.

The imaging market is characterized by declining prices of existing products and
a transition from higher priced network interface cards to semiconductor
devices. Therefore, continual improvements in manufacturing efficiencies and the
introduction of new products and enhancements to existing products are required
for us to maintain our gross margins. In response to customer demands or
competitive pressures, or to pursue new product or market opportunities, we may
take certain pricing or marketing actions, such as price reductions or volume
discounts. These actions could have a material adverse effect on us.

A significant amount of our customers in the imaging market are headquartered in
Japan. Our customers are subject to declines in their local economies, which
have affected them from time to time in the past and may affect them in the
future. The success of our customers affects their purchases from us.

                                        15
<PAGE>   17

OUR HIGHLY CONCENTRATED CUSTOMER BASE INCREASES THE POTENTIAL ADVERSE EFFECT ON
US FROM THE LOSS OF ONE OR MORE CUSTOMERS.

Our products have historically been sold into the imaging markets for use in
products such as printers, scanners, fax machines, copiers and multi-function
peripherals. This market is highly concentrated. Accordingly, our sales are
derived from a limited number of customers, with the top five OEM customers
accounting for 55%, 72% and 52% of total revenues for the fiscal years ended
2001, 2000 and 1999, respectively. In particular, sales to Dimatech and Ricoh
accounted for 23% and 20% of total revenues, respectively, for the fiscal year
ended January 31, 2001. We expect that a small number of customers will continue
to account for a substantial portion of our total revenues for the foreseeable
future. All of our sales are made on the basis of purchase orders rather than
under long-term agreements, and therefore, any customer could cease purchasing
our products at any time without penalty. The decision of any key customer to
cease using our products or a material decline in the number of units purchased
by a significant customer would have a material adverse effect on us.

THE LONG AND VARIABLE SALES CYCLE FOR OUR PRODUCTS MAKES IT MORE DIFFICULT FOR
US TO PREDICT OUR OPERATING RESULTS AND MANAGE OUR BUSINESS.

The sale of our products typically involves a significant technical evaluation
and commitment of capital and other resources by potential customers, as well as
delays frequently associated with customers' internal procedures to deploy new
technologies within their products and to test and accept new technologies. For
these and other reasons, the sales cycle associated with our products is
typically lengthy, lasting nine months or longer, and is subject to a number of
significant risks, including customers' internal acceptance reviews, that are
beyond our control. Because of the lengthy sales cycle and the large size of
customer orders, if orders forecasted for a specific customer for a particular
quarter are not realized in that quarter, our operating results for that quarter
could be materially adversely affected.

OUR RELATIVELY LOW LEVEL OF BACKLOG INCREASES THE POTENTIAL VARIABILITY OF OUR
QUARTERLY OPERATING RESULTS.

Our backlog at the beginning of each quarter typically is not sufficient to
achieve expected sales for the quarter. To achieve our sales objectives, we are
dependent upon obtaining orders during each quarter for shipment during that
quarter. Furthermore, our agreements with our customers typically permit them to
change delivery schedules.

Non-imaging customers may cancel orders within specified time frames (typically
30 days or more prior to the scheduled shipment date under our policies) without
significant penalty. Our customers have in the past built, and may in the future
build, significant inventory in order to facilitate more rapid deployment of
anticipated major products or for other reasons. Decisions by such customers to
reduce their inventory levels have led and could lead to reductions in their
purchases from us. These reductions, in turn, have caused and could cause
adverse fluctuations in our operating results.

OUR DEPENDENCE ON NEW PRODUCT DEVELOPMENT AND THE RAPID TECHNOLOGICAL CHANGE
THAT CHARACTERIZES OUR INDUSTRY MAKE US SUSCEPTIBLE TO LOSS OF MARKET SHARE
RESULTING FROM COMPETITORS' PRODUCT INTRODUCTIONS AND SIMILAR RISKS.

The semiconductor and networking industries are characterized by rapidly
changing technologies, evolving industry standards, frequent new product
introductions, short product life cycles and rapidly changing customer
requirements. The introduction of products embodying new technologies and the
emergence of new industry standards can render existing products obsolete and
unmarketable. Our future success will depend on our ability to enhance our
existing products, to introduce new products to meet changing customer
requirements and emerging technologies, and to demonstrate the performance
advantages and cost-effectiveness of our products over competing products. Any
failure by us to modify our products to support new local-area network, or LAN,
wide-area network, or WAN, and Internet technologies, or alternative
technologies, or
                                        16
<PAGE>   18

any failure to achieve widespread customer acceptance of such modified products
could have a material adverse effect on us. In particular, we have dedicated
significant resources to developing products based on the Linux operating system
and on the Java programming language, and the failure of these products to
achieve widespread acceptance could have a material adverse effect on us.

We have in the past and may in the future experience delays in developing and
marketing product enhancements or new products that respond to technological
change, evolving industry standards and changing customer requirements. There
can be no assurance that we will not experience difficulties that could delay or
prevent the successful development, introduction and marketing of these products
or product enhancements, or that our new products and product enhancements will
adequately meet the requirements of the marketplace and achieve any significant
or sustainable degree of market acceptance in existing or additional markets.
Failure by us, for technological or other reasons, to develop and introduce new
products and product enhancements in a timely and cost-effective manner would
have a material adverse effect on us. In addition, the future introductions or
announcements of products by us or one of our competitors embodying new
technologies or changes in industry standards or customer requirements could
render our then-existing products obsolete or unmarketable. There can be no
assurance that the introduction or announcement of new product offerings by us
or one or more of our competitors will not cause customers to defer the purchase
of our existing products. Such deferment of purchases could have a material
adverse effect on us.

OUR FAILURE TO EFFECTIVELY MANAGE PRODUCT TRANSITIONS COULD HAVE A MATERIAL
ADVERSE EFFECT ON US.

From time to time, we or our competitors may announce new products, capabilities
or technologies that may replace or shorten the life cycles of our existing
products. Announcements of currently planned or other new products may cause
customers to defer or stop purchasing our products until new products become
available. Furthermore, the introduction of new or enhanced products requires us
to manage the transition from older product inventories and ensure that adequate
supplies of new products can be delivered to meet customer demand. Our failure
to effectively manage transitions from older products could have a material
adverse effect on our business, results of operations and financial condition.

OUR FAILURE TO COMPETE SUCCESSFULLY IN OUR HIGHLY COMPETITIVE MARKET COULD
RESULT IN REDUCED PRICES AND LOSS OF MARKET SHARE.

The markets in which we operate are intensely competitive and characterized by
rapidly changing technology, evolving industry standards, declining average
selling prices and frequent new product introductions. A number of companies
offer products that compete with one or more elements of our products. We
believe that the competitive factors affecting the market for our products
include product performance, price and quality, product functionality and
features, the availability of products for existing and future platforms, the
ease of integration with other hardware and software components of the
customer's products, and the quality of support services, product documentation
and training. The relative importance of each of these factors depends upon the
specific customer involved. There can be no assurance that we will be able to
compete successfully against current and future competitors, or that competitive
factors faced by us will not have a material adverse effect on us.

We primarily compete with the internal development departments of large
manufacturing companies that have developed their own networking solutions, as
well as established developers of embedded systems software and chips such as
Axis Communications, Echelon, Emulex, Hitachi, Intel, Milan Technology, a
division of Digi International, Motorola, Peerless Systems, Samsung and Wind
River. In addition, we are aware of certain companies which have recently
introduced products that address the markets targeted by us. We have experienced
and expect to continue to experience increased competition from current and
potential competitors, many of which have substantially greater financial,
technical, sales, marketing and other resources, as well as greater name
recognition and larger customer bases than ours. In particular, established
companies in the networking or semiconductor industries may seek to expand their
product offerings by designing and selling products using competitive technology
that could render our products obsolete or have a

                                        17
<PAGE>   19

material adverse effect on our sales. Increased competition may result in
further price reductions, reduced gross margins and loss of market share.

WE DEPEND ON THIRD-PARTY SOFTWARE THAT WE USE UNDER LICENSES THAT MAY EXPIRE.

We rely on certain software that we license from third parties, including
software that is integrated with internally developed software and used in our
products to perform key functions. These software license agreements are with
Express Logic, Inc., Allegro Software Development Corporation and Wind River,
each of which terminates only if we default under the respective agreement; with
Novell, Inc., which is renewable annually at the option of both parties, with
InterNiche Technologies, Inc., which renews until terminated by either party and
with Peerless Systems Corporation, which expires in 2004 and is subject to
year-to-year renewals thereafter at the option of both parties. These
third-party software licenses may not continue to be available to us on
commercially reasonable terms, and the related software may not continue to be
appropriately supported, maintained or enhanced by the licensors. The loss of
licenses to use, or the inability of licensors to support, maintain, and enhance
any of such software, could result in increased costs, delays or reductions in
product shipments until equivalent software is developed or licensed, if at all,
and integrated.

WE DEPEND ON MANUFACTURING, ASSEMBLING AND PRODUCT TESTING RELATIONSHIPS AND ON
LIMITED SOURCE SUPPLIERS, AND ANY DISRUPTIONS IN THESE RELATIONSHIPS MAY CAUSE
DAMAGE TO OUR CUSTOMER RELATIONSHIPS.

We do not have our own semiconductor fabrication assembly or testing operations
or contract manufacturing capabilities. Instead, we rely upon independent
contractors to manufacture our components, subassemblies, systems and products.
Currently, all of our semiconductor devices are being manufactured, assembled
and tested by Atmel Corporation in the United States and Europe, and we expect
that we will continue to rely upon Atmel to manufacture, assemble and test a
significant portion of our semiconductor devices in the future. In the past, we
experienced a delay in the introduction of one of our products due to a problem
with Atmel's design tools. While we are in the process of qualifying other
suppliers, any qualification and pre-production periods could be lengthy and may
cause delays in providing products to customers in the event that the sole
source supplier of the semiconductor devices fails to meet our requirements. For
example, Atmel uses its manufacturing facilities for its own products as well as
those it manufactures on a contract basis. There is no assurance that Atmel will
have adequate capacity to meet the needs of its contract manufacturing
customers. In addition, semiconductor manufacturers generally experience
periodic constraints on their manufacturing capacity.

We also rely upon limited-source suppliers for a number of other components used
in our products. There can be no assurance that these independent contractors
and suppliers will be able to meet our future requirements for manufactured
products, components and subassemblies in a timely fashion. We generally
purchase limited-source components under purchase orders and have no guaranteed
supply arrangements with these suppliers. In addition, the availability of many
of these components to us is dependent in part on our ability to provide our
suppliers with accurate forecasts of our future requirements. Any extended
interruption in the supply of any of the key components currently obtained from
limited sources would disrupt our operations and have a material adverse effect
on our business, results of operations and financial condition.

Delays or lost sales have been and could be caused by other factors beyond our
control, including late deliveries by vendors of components, changes in
implementation priorities or slower than anticipated growth in the market for
networking solutions for embedded systems. Operating results in the past have
also been adversely affected by delays in receipt of significant purchase orders
from customers. In addition, we have experienced delays as a result of the need
to modify our products to comply with unique customer specifications. In
general, the timing and magnitude of our revenues are highly dependent upon our
achievement of design wins, the timing and success of our customers' development
cycles, and our customers' product sales. Any of these factors could have a
material adverse effect on our business, results of operations and financial
condition.

                                        18
<PAGE>   20

THE CYCLICALITY OF THE SEMICONDUCTOR INDUSTRY MAY RESULT IN SUBSTANTIAL
PERIOD-TO-PERIOD FLUCTUATIONS.

Our semiconductor products provide networking capabilities for intelligent,
network-enabled devices and other embedded systems. The semiconductor industry
is highly cyclical and subject to rapid technological change and has been
subject to significant economic downturns at various times, characterized by
diminished product demand, accelerated erosion of average selling prices and
production overcapacity. The semiconductor industry also periodically
experiences increased demand and production capacity constraints. As a result,
we may experience substantial period-to-period fluctuations in future operating
results due to general semiconductor industry conditions, overall economic
conditions or other factors.

OUR ABILITY TO COMPETE COULD BE JEOPARDIZED IF WE ARE UNABLE TO PROTECT OUR
INTELLECTUAL PROPERTY RIGHTS.

Our ability to compete depends in part on our proprietary rights and technology.
We have no patents and rely primarily on a combination of copyright and
trademark laws, trade secrets, confidentiality procedures and contract
provisions to protect our proprietary rights.

We generally enter into confidentiality agreements with our employees, and
sometimes with our customers and potential customers and limit access to the
distribution of our software, hardware designs, documentation and other
proprietary information. There can be no assurance that the steps taken by us in
this regard will be adequate to prevent the misappropriation of our technology.
While we have filed two patent applications and plan to file various additional
applications, such applications may be denied. Any patents, once issued, may be
circumvented by our competitors. Furthermore, there can be no assurance that
others will not develop technologies that are superior to ours. Despite our
efforts to protect our proprietary rights, unauthorized parties may attempt to
copy aspects of our products or to obtain and use information that we regard as
proprietary. In addition, the laws of some foreign countries do not protect our
proprietary rights as fully as do the laws of the United States. There can be no
assurance that our means of protecting our proprietary rights in the United
States or abroad will be adequate or that competing companies will not
independently develop similar technology. Our failure to adequately protect our
proprietary rights could have a material adverse effect on our business, results
of operations and financial condition.

We exclusively license the right to use the NET+ARM trademark from ARM Limited
according to a royalty-free agreement expiring in 2008. We depend on ARM to
enforce its rights to the trademark against third-party infringement. There can
be no assurance that ARM will promptly and adequately enforce these rights which
could have a material adverse effect on our business, results of operations and
financial condition.

WE COULD BECOME SUBJECT TO CLAIMS AND LITIGATION REGARDING INTELLECTUAL PROPERTY
RIGHTS, WHICH COULD SERIOUSLY HARM US AND REQUIRE US TO INCUR SIGNIFICANT COSTS.

The semiconductor and networking industries are characterized by frequent
litigation regarding patent and other intellectual property rights. Although we
have not been notified that our products infringe any third-party intellectual
property rights, there can be no assurance that we will not receive such
notification in the future. Any litigation to determine the validity of
third-party infringement claims, whether or not determined in our favor or
settled by us, would at a minimum be costly and divert the efforts and attention
of our management and technical personnel from productive tasks, which could
have a material adverse effect on our business, results of operations and
financial condition. There can be no assurance that any infringement claims by
third parties or any claims for indemnification by customers or end users of our
products resulting from infringement claims will not be asserted in the future
or that such assertions, if proven to have merit, will not materially adversely
affect our business, results of operations or financial condition. In the event
of an adverse ruling in any such matter, we would be required to pay substantial
damages, cease the manufacture, use and sale of infringing products, discontinue
the use of certain processes or be required to obtain a license under the
intellectual property rights of the third party claiming infringement. There can
be no assurance that a license would be available on reasonable terms or at all.
Any limitations on our ability to market our products, or

                                        19
<PAGE>   21

delays and costs associated with redesigning our products or payments of license
fees to third parties, or any failure by us to develop or license a substitute
technology on commercially reasonable terms could have a material adverse effect
on our business, results of operations and financial condition.

WE FACE RISKS ASSOCIATED WITH OUR INTERNATIONAL OPERATIONS AND EXPANSION THAT
COULD IMPAIR OUR ABILITY TO GROW OUR REVENUES ABROAD.

In the fiscal years ended January 31, 2001, 2000 and 1999, international sales
constituted approximately 55%, 50% and 51% of our net sales, respectively, and
approximately 68%, 77% and 46% of our domestic sales were to customers
headquartered in Asia during the fiscal years ended January 31, 2001, 2000 and
1999, respectively.

We believe that our future growth is dependent in part upon our ability to
increase sales in international markets, and particularly to manufacturers
located in Japan, which sell their products worldwide. These sales are subject
to a variety of risks, including fluctuations in currency exchange rates,
tariffs, import restrictions and other trade barriers, unexpected changes in
regulatory requirements, longer accounts receivable payment cycles and
potentially adverse tax consequences and export license requirements. In
addition, we are subject to the risks inherent in conducting business
internationally, including political and economic instability and unexpected
changes in diplomatic and trade relationships. In particular, the economies of
certain countries in the Asia-Pacific region are experiencing considerable
economic instability and downturns. Because our sales to date have been
denominated in United States dollars, increases in the value of the United
States dollar could increase the price in local currencies of our products in
non-US markets and make our products more expensive than competitors' products
denominated in local currencies. In addition, an integral part of our business
strategy is to form strategic alliances for the manufacture and distribution of
our products with third parties, including foreign corporations. There can be no
assurance that one or more of the factors described above will not have a
material adverse effect on our business, results of operations and financial
condition.

We intend to expand our presence in Europe to address new markets. One change
resulting from the formation of a European Economic and Monetary Union ("EMU")
required EMU member states to irrevocably fix their respective currencies to a
new currency, the euro, as of January 1, 1999. Business in the EMU member states
will be conducted in both the existing national currency such as the French
franc or the Deutsche mark, and the euro through 2002. As a result, companies
operating or conducting business in EMU member states will need to ensure that
their financial and other software systems are capable of processing
transactions and properly handling these currencies, including the euro. There
can be no assurance that the conversion to the euro will not have a material
adverse effect on our business, results of operations and financial condition.

IF WE LOSE KEY PERSONNEL IT COULD PREVENT US FROM EXECUTING OUR BUSINESS
STRATEGY.

Our business and prospects depend to a significant degree upon the continuing
contributions of our executive officers and our key technical personnel.
Competition for such personnel is intense, and there can be no assurance that we
will be successful in attracting and retaining qualified personnel. Our stock
price and the number of options outstanding with exercise prices in excess of
their market price could make it more difficult to attract and retain key
personnel. Failure to attract and retain key personnel could result in our
failure to execute our business strategy and have a material adverse effect on
us. We have employment contracts with our Vice President, Intelligent Device
Markets Europe; Vice President, Finance, and Chief Financial Officer; President
and Chief Operating Officer and the Chairman and Chief Executive Officer. We do
not maintain any key-man life insurance policies.

ANY FAILURE TO COMPLY WITH SIGNIFICANT REGULATIONS AND EVOLVING INDUSTRY
STANDARDS COULD DELAY INTRODUCTION OF OUR PRODUCTS.

The market for our products is subject to a significant number of communications
regulations and industry standards, some of which are evolving as new
technologies are deployed. In the United States, our products

                                        20
<PAGE>   22

must comply with various regulations defined by the Federal Communications
Commission and standards established by Underwriters' Laboratories. Some of our
products may not comply with current industry standards, and this noncompliance
must be addressed in the design of those products. Standards for networking are
still evolving. As the standards evolve, we may be required to modify our
products or develop and support new versions of our products. The failure of our
products to comply or delays in compliance, with the various existing and
evolving industry standards could delay introduction of our products, which
could have a material adverse effect on our business, results of operations and
financial condition.

ANY MATERIAL PRODUCT DEFECTS COULD RESULT IN LOSS OF MARKET SHARE, DELAY OF
MARKET ACCEPTANCE OR PRODUCT LIABILITY CLAIMS OR LOSSES.

Complex products such as those offered by us may contain undetected or
unresolved defects when first introduced or as new versions are released. The
occurrence of material errors in the future could, and the failure or inability
to correct such errors would, result in the loss of market share, the delay or
loss of market acceptance of our products, material warranty expense, diversion
of engineering and other resources from our product development efforts, the
loss of credibility with our customers or product recall. The use of our
products for applications in devices that interact directly with the general
public, where the failure of the embedded system could cause property damage or
personal injury, could expose us to significant product liability claims.
Although we have not experienced any product liability or economic loss claims
to date, the sale and support of our products may entail the risk of such
claims. Any of such occurrences could have a material adverse effect upon our
business, results of operations and financial condition.

IF WE DO NOT SUCCESSFULLY MANAGE OUR GROWTH, IT COULD HAVE A MATERIAL ADVERSE
EFFECT ON US.

We have limited internal infrastructure and any significant growth would place a
substantial strain on our financial and management personnel and information
systems and controls. Such growth would require us to implement new and enhance
existing financial and management information systems and controls and add and
train personnel to operate such systems effectively. Our intention to continue
to pursue our growth strategy through efforts to increase sales of existing
products and new products can be expected to place even greater pressure on our
existing personnel and compound the need for increased personnel, expanded
information systems, and additional financial and administrative control
procedures. There can be no assurance that we will be able to successfully
manage expanding operations. Our inability to manage our expanded operations
effectively could have a material adverse effect on our business, results of
operations and financial condition.

A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK COULD BE SOLD INTO THE PUBLIC
MARKET, WHICH COULD DEPRESS OUR STOCK PRICE.

Sales of a substantial number of shares of common stock in the public market
could adversely affect the market price for our common stock and could make it
more difficult for us to raise funds through equity offerings in the future.

Subject to applicable federal and securities laws and the restrictions set forth
below, Sorrento may sell any and all of the shares of common stock beneficially
owned by it or distribute any or all such shares of common stock to its
stockholders. Sales or distributions by Sorrento of substantial amounts of
common stock in the public market or to its stockholders, or the perception that
such sales or distribution could occur, could adversely affect the prevailing
market prices for the common stock. Sorrento is not subject to any obligation to
retain its shares in NetSilicon. As a result, there can be no assurance
concerning the period of time during which Sorrento will maintain its beneficial
ownership of our common stock.

At January 31, 2001, options to purchase an aggregate of 5,051,149 shares of our
common stock were outstanding. Of these options, 852,394 were exercisable as of
January 31, 2001, with additional vesting to occur from time to time.

                                        21
<PAGE>   23

ANY ACQUISITIONS WE HAVE MADE OR WILL MAKE COULD DISRUPT OUR BUSINESS AND
SERIOUSLY HARM OUR FINANCIAL CONDITION.

We continue to intend to consider investments in complementary companies,
products or technologies. We may buy businesses, products or technologies in the
future. In the event of any future purchases, we could:

          -       issue stock that would dilute our current stockholders'
                  percentage ownership;

          -       incur debt;

          -       assume liabilities;

          -       incur amortization expenses related to goodwill and other
                  intangible assets; or

          -       incur large and immediate write-offs.

OUR OPERATION OF ANY ACQUIRED BUSINESS WILL ALSO INVOLVE NUMEROUS RISKS,
INCLUDING:

          -       problems combining the purchased operations, technologies or
                  products;

          -       unanticipated costs;

          -       diversion of management's attention from our core business;

          -       difficulties integrating businesses in different countries and
                  cultures;

          -       adverse effects on existing business relationships with
                  suppliers and customers;

          -       risks associated with entering markets in which we have no or
                  limited prior experience; and

          -       potential loss of key employees, particularly those of the
                  purchased organizations.

We cannot assure you that we will be able to successfully integrate any
businesses, products, technologies or personnel that we have acquired or that we
might acquire in the future and any failure to do so could disrupt our business
and seriously harm our financial condition.

BECAUSE THE NASDAQ NATIONAL MARKET IS LIKELY TO EXPERIENCE EXTREME PRICE AND
VOLUME FLUCTUATIONS, THE PRICE OF OUR COMMON STOCK MAY DECLINE.

The market price of our shares is likely to be highly volatile and could be
subject to wide fluctuations in response to numerous factors, including the
following:

          -       actual or anticipated variations in our quarterly operating
                  results or those of our competitors;

          -       announcements by us or our competitors of new products or
                  technological innovations;

          -       introduction and adoption of new industry standards;

          -       changes in financial estimates or recommendations by
                  securities analysts;

          -       changes in the market valuations of our competitors;

          -       announcements by us or our competitors of significant
                  acquisitions or partnerships; and

          -       sales of our common stock.

Many of these factors are beyond our control and may negatively impact the
market price of our common stock, regardless of our performance. In addition,
the stock market in general, and the market for technology companies in
particular, has been highly volatile. Our common stock may not trade at the same
levels of shares as that of other technology companies and shares of technology
companies, in general, may not sustain their current market prices. In the past,
securities class action litigation has often been brought against a company
following periods of volatility in the market price of its securities. We may be
the target of similar litigation in the future. Securities litigation could
result in substantial costs and divert management's attention and resources,
which could seriously harm our business and operating results.

                                        22
<PAGE>   24

PROVISIONS OF OUR CHARTER DOCUMENTS, OUR SHAREHOLDER RIGHTS PLAN AND LAW MAY
HAVE ANTI-TAKEOVER EFFECTS THAT COULD PREVENT A CHANGE OF CONTROL.

Provisions of our amended and restated articles of organization, bylaws, our
shareholder rights plan, and of Massachusetts law could make it more difficult
for a third party to acquire us, even if doing so would be beneficial to our
stockholders. Operating alone or together, the above provisions or statutes
could diminish the opportunities for a stockholder to participate in tender
offers, including tender offers at a price above the then current market value
of Common Stock and may render more difficult or discourage a merger,
consolidation or tender offer, the assumption of control by a holder of a large
block of the Company's shares, and the removal of incumbent management.

ITEM 2.     PROPERTIES:

We lease approximately 47,000 square feet of office space in Waltham,
Massachusetts, for our corporate headquarters. Activities at our Waltham
headquarters include administration, sales, product development, assembly, test
and support. Our lease for property in Waltham provides for base rent of $55,589
per month through February 28, 2003. We believe that our current facilities are
adequate to meet our current needs.

In addition we lease the following properties:

          -       5,750 square feet of office space in Newbury Park, California
                  which is used by our Softworks group for product development
                  and sales and marketing;

          -       1,370 square feet of office space in Tokyo, Japan and 1,300
                  square feet of office space in Kirchheim, Germany, all of
                  which is used primarily for sales and marketing.

ITEM 3.     LEGAL PROCEEDINGS:

NetSilicon may become involved in various legal actions from time to time
arising in the ordinary course of business. Except as noted below, the Company
is not a party to any litigation that it believes could have a material adverse
effect on the business, results of operations and financial condition of the
Company.

On August 31, 2000, Websprocket, LLC filed a suit against the Company in the
United States District Court for the Northern District of California
(Websprocket, LLC v. NetSilicon, Inc., Civil Action No. C-00-20915), claiming
breach of contract. The complaint alleges that the Company breached a technology
development contract that was executed between the Company and Websprocket, LLC
in December 1999. Websprocket, LLC seeks relief including alleged damages of
$2,000,000 plus attorney's fees, a declaration of its rights under the
technology development contract and an injunction requiring the Company to cease
using and return all property of Websprocket, LLC. The Company believes that it
has meritorious defenses to the claims and intends to contest the lawsuit
vigorously. On or about October 31, 2000, the Company asserted counterclaims
against Websprocket, LLC that included breach of contract, fraud, and negligent
misrepresentation. An unfavorable resolution of the action could have a material
adverse effect on the business, results of operations or financial condition of
the Company.

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

No matters were submitted to a vote of NetSilicon's security holders during the
fourth quarter of the fiscal year ended January 31, 2001.

                                        23
<PAGE>   25

                                    PART II

ITEM 5.     MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER
MATTERS:

We effected our initial public offering on September 15, 1999 at a price of
$7.00 per share. Since that date, our Common Stock has traded on the Nasdaq
National Market under the symbol NSIL. The following table sets forth, for the
period indicated, the high and low closing sales prices for the Common Stock,
all as reported by the Nasdaq National Market.

                          QUARTERLY STOCK MARKET DATA

<TABLE>
<CAPTION>
FISCAL 2001      HIGH     LOW      FISCAL 2000     HIGH     LOW
-----------     ------   ------   --------------  ------   ------
<S>             <C>      <C>      <C>             <C>      <C>
First Quarter   $45.75   $11.00   First Quarter      N/A      N/A
Second Quarter  $35.25   $14.38   Second Quarter     N/A      N/A
Third Quarter   $30.00   $12.94   Third Quarter   $15.88   $ 9.38
Fourth Quarter  $14.25   $ 2.44   Fourth Quarter  $26.56   $11.81
</TABLE>

On January 31, 2001, there were approximately 23 shareholders of record. We
believe that shares of our Common Stock held in bank, money management,
institution and brokerage house "nominee" names may account for an estimated
5,400 additional beneficial holders. The last reported sale price of the Common
Stock on April 23, 2001 was $3.43 per share.

We currently intend to retain all of our earnings to finance future growth and
therefore, do not anticipate paying any cash dividends on our common stock in
the foreseeable future.

                                        24
<PAGE>   26

ITEM 6.    SELECTED FINANCIAL DATA:

The following selected financial data of the Company for the five years ended
January 31, 2001 are derived from the audited financial statements of the
Company. The information set forth below should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included as Item 7 and the financial statements and related
footnotes included as Item 8 in this Form 10-K.

                                NetSilicon, Inc.

<TABLE>
<CAPTION>
                                                     FISCAL YEARS ENDED JANUARY 31,
                                           ---------------------------------------------------
                                            2001       2000       1999       1998       1997
                                           -------    -------    -------    -------    -------
                                                  (IN THOUSANDS, EXCEPT PER SHARE DATA)
<S>                                        <C>        <C>        <C>        <C>        <C>
STATEMENT OF OPERATIONS DATA:
Net sales................................  $37,382    $31,841    $13,373    $ 7,920    $ 7,445
Cost of sales............................   15,188     15,423      7,521      4,337      4,616
                                           -------    -------    -------    -------    -------
Gross margin.............................   22,194     16,418      5,852      3,583      2,829
                                           -------    -------    -------    -------    -------
Operating expenses:
  Selling and marketing..................   10,753      7,560      3,336      1,810      1,563
  Engineering, research and
     development.........................    7,054      3,083      1,903      1,206        706
  General and administrative.............    4,690      3,551      2,194      1,795      1,502
  Amortization of intangible assets......      338         --         --         --         --
  Intangible and other asset impairment
     charges.............................    1,498         --         --         --         --
                                           -------    -------    -------    -------    -------
Total operating expenses.................   24,333     14,194      7,433      4,811      3,771
                                           -------    -------    -------    -------    -------
Operating income (loss) from continuing
  operations.............................   (2,139)     2,224     (1,581)    (1,228)      (942)
Interest income (expense), net...........      882       (206)      (551)      (118)      (136)
                                           -------    -------    -------    -------    -------
Income (loss) from continuing operations
  before income tax benefit..............   (1,257)     2,018     (2,132)    (1,346)    (1,078)
Income tax benefit.......................       --         --         --        493        969
                                           -------    -------    -------    -------    -------
Income (loss) from continuing
  operations.............................  $(1,257)   $ 2,018    $(2,132)   $  (853)   $  (109)
                                           =======    =======    =======    =======    =======
Income (loss) from continuing operations
  per share:
  Basic..................................  $ (0.09)   $  0.18    $ (0.21)   $ (0.09)   $ (0.01)
  Diluted................................  $ (0.09)   $  0.17    $ (0.21)   $ (0.09)   $ (0.01)
Weighted average number of shares
  outstanding:
  Basic..................................   13,674     11,327     10,000     10,000      8,285
  Diluted................................   13,674     11,978     10,000     10,000      8,285
</TABLE>

<TABLE>
<CAPTION>
                                                               JANUARY 31,
                                           ---------------------------------------------------
                                            2001       2000       1999       1998       1997
                                           -------    -------    -------    -------    -------
                                                             (IN THOUSANDS)
<S>                                        <C>        <C>        <C>        <C>        <C>
BALANCE SHEET DATA:
Cash and cash equivalents................  $ 5,999    $11,097    $   583    $   185    $   394
Working capital (deficit)................   19,102     19,515     (3,471)      (787)      (241)
Total assets.............................   31,401     29,781     11,648      7,933      7,615
Due to affiliate.........................       --         57      5,885      1,812        948
Total debt (including short-term debt)...       10        983      3,191      3,005      3,338
Stockholders' equity (deficit)...........   24,713     22,483     (1,836)       586        763
</TABLE>

                                        25
<PAGE>   27

ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
           RESULTS OF OPERATIONS:

Some of the information in this report contains forward-looking statements
within the meaning of the federal securities laws. These statements include,
among others, the following: future product development plans, projected capital
expenditures, and liquidity and business strategy. These statements may be found
under Business and Management's Discussion and Analysis of Financial Condition
and Results of Operations. Forward-looking statements typically are identified
by use of terms such as may, will, expect, anticipate, estimate and similar
words, although some forward-looking statements are expressed differently. You
should be aware that our actual results could differ materially from those
contained in the forward-looking statements due to a number of factors,
including delays in product introductions, interruptions in supply and
competitive product introductions. You should also consider carefully the
statements under Business and Risk Factors and other sections of this report,
which address additional factors that could cause our actual results to differ
from those set forth in the forward-looking statements.

You should read this discussion together with the financial statements and other
financial information included in this document.

OVERVIEW

We develop and market semiconductor devices and software products designed to
meet the networking requirements of embedded systems. We commenced our
operations in 1984 as Digital Products, Inc. From our inception, we have
developed and marketed networking products for embedded systems that enable the
connection of electronic devices to networks. In 1994, we introduced the Digital
Products Option, or DPO, Interface Specification and our network interface card,
or NIC, two network connectivity products used by printer controller designers
and manufacturers of imaging devices. DPO was designed using the same networking
technology found in our previous products.

In 1996, we began developing our NET+Works family of semiconductor devices
designed to network-enable a broad array of embedded systems in a variety of
markets. In September 1996, Sorrento Networks Corporation, formerly Osicom
Technologies, Inc. ("Sorrento"), acquired all of our outstanding capital stock
from our stockholders for $5.0 million of Sorrento common stock. Supported by
Sorrento's funding of working capital, we completed the development of our
NET+Works family of products and began shipping that family of products in March
1998. We were a wholly-owned subsidiary of Sorrento from the date of the
acquisition through our initial public offering in September of 1999.

As of May 1, 1998, according to our intercompany agreement with Sorrento, we
transferred our stand-alone print server line of business to Sorrento.
Therefore, we treat the stand-alone print server line of business as a
discontinued operation, and Sorrento now manufactures, sells and supports the
stand-alone print server and other products. The financial data discussed below
do not include the operations of the stand-alone print server line of business.

We generate revenues from the sales of network semiconductor devices, NICs and
software products, development tools and application engineering services to
embedded systems manufacturers. Our networking products are sold to
manufacturers that build them into electronic devices incorporating embedded
systems that are sold to end users. We generally recognize product and software
license revenue upon shipment to our customers. Revenue recognition is not
dependent upon the customers of those manufacturers accepting the manufacturer's
products into which our products are incorporated. Revenue from service
obligations is deferred and recognized over the lives of the contracts or when
the service is performed. Our standard warranty period is 12 months from date of
shipment and our standard product return policy does not allow the customer to
return product other than for warranty. We accrue warranty costs and other
allowances at the time of shipment. In general, the timing and magnitude of our
revenues are dependent upon our achievement of design wins, the timing and
success of our customers' development cycles and our customers' product sales.
In addition to revenues from actual sales of the hardware products, NetSilicon
also receives revenue from the sales of support services provided to developers
during their design stage, and also from post-sale support

                                        26
<PAGE>   28

contracts. The contracts generally cover the 12 month period following date of
actual shipment of product to the customer. The sale of our products typically
involves a significant technical evaluation and commitment of capital and other
resources by customers, as well as delays frequently associated with customers'
internal procedures to deploy new technologies within their products and to
accept and test new technologies. For these and other reasons, the sales cycles
associated with our products is typically lengthy, lasting nine months or
longer.

In the fiscal years ended January 31, 2001, 2000 and 1999, international sales
constituted approximately 55%, 50% and 51% of our net sales, respectively, and
approximately 68%, 77% and 46% of our domestic sales were to customers
headquartered in Asia during the fiscal years ended January 31, 2001, 2000 and
1999, respectively. Approximately 79%, 95% and 95% of our net sales in the
fiscal years ended January 31, 2001, 2000 and 1999, respectively, were made to
customers in the imaging market, many of which are headquartered in Japan.

RESULTS OF OPERATIONS

The following table sets forth information derived from our Statement of
Operations expressed as a percentage of net sales for the fiscal years ended
January 31, 2001, 2000 and 1999.

<TABLE>
<CAPTION>
                                                              FISCAL YEARS ENDED JANUARY 31,
                                                              ------------------------------
                                                               2001        2000        1999
                                                              ------      ------      ------
<S>                                                           <C>         <C>         <C>
STATEMENT OF OPERATIONS DATA:
Net sales...................................................  100.0%      100.0%      100.0%
Cost of sales...............................................   40.6        48.4        56.2
                                                              -----       -----       -----
Gross margin................................................   59.4        51.6        43.8
                                                              -----       -----       -----
Operating expenses:
  Selling and marketing.....................................   28.8        23.7        24.9
  Engineering, research and development.....................   18.9         9.7        14.3
  General and administrative................................   12.5        11.2        16.4
  Amortization of intangible assets.........................    0.9          --          --
  Intangible and other asset impairment charges.............    4.0          --          --
                                                              -----       -----       -----
Total operating expenses....................................   65.1        44.6        55.6
                                                              -----       -----       -----
Operating income (loss) from continuing operations..........   (5.7)        7.0       (11.8)
Interest income (expense), net..............................    2.4        (0.6)       (4.1)
                                                              -----       -----       -----
Income (loss) from continuing operations before income tax
  benefit...................................................   (3.3)        6.4       (15.9)
Income tax benefit..........................................     --          --          --
                                                              -----       -----       -----
Income (loss) from continuing operations....................   (3.3)%       6.4%      (15.9)%
                                                              =====       =====       =====
</TABLE>

FISCAL YEAR ENDED JANUARY 31, 2001 COMPARED TO FISCAL YEAR ENDED JANUARY 31,
2000

NET SALES.  Net sales increased to $37.4 million in the fiscal year ended
January 31, 2001 from $31.8 million in the fiscal year ended January 31, 2000,
representing an increase of 17.4%. The increase in net sales was due primarily
to an increase in OEM customers to which the Company shipped product from 43 in
fiscal year 2000 to 79 in fiscal year 2001 and increased sales to existing OEM
imaging customers due to greater demand for their products and an increase in
the number of projects we have with these customers. Backlog for our product and
services was approximately $3.4 million and $6.0 million at January 31, 2001 and
2000, respectively, all of which was scheduled to be shipped within 12 months.

Office imaging market sales accounted for 79.0% of total net sales in fiscal
year 2001 compared to 95.0% of total net sales in fiscal year 2000. 13.0% and
5.0% of net sales in fiscal years 2001 and 2000, respectively, were to a broad
array of intelligent device markets including telecommunications and telephony,
industrial automation, building automation and control, point-of-sale, wireless
access and others. We expect that sales to

                                        27
<PAGE>   29

intelligent device markets other than office imaging will continue to grow as a
percent of total sales as we add new customers in these markets.

Our embedded networking semiconductor and controller products accounted for
88.3% and 94.0% of total net sales in fiscal years 2001 and 2000, respectively.
Software development tools and development boards accounted for 5.6% and 2.0% of
total net sales in fiscal years 2001 and 2000, respectively, and 6.1% and 4.0%
of net sales in fiscal years 2001 and 2000, respectively, related to royalty,
maintenance and service revenue.

COST OF SALES; GROSS MARGIN.  Cost of sales consists principally of the cost of
raw material components and subcontract labor assembly from outside
manufacturers and suppliers. Cost of sales also includes amortization of
software development costs. Gross margin increased to $22.2 million, or 59.4% of
net sales, in the fiscal year ended January 31, 2001 from $16.4 million, or
51.6% of net sales, in the fiscal year ended January 31, 2000, representing an
increase of 35.2%. The increase in gross margin percent in fiscal year 2001 was
due primarily to material and subcontract labor cost reductions which were
partially attributable to the increased sales volume and our transition to a new
subcontract manufacturer for imaging network interface cards. In addition, the
increase in gross margin is due to higher non-recurring engineering fees and
royalties in fiscal year 2001 compared to fiscal year 2000 and a gradual shift
in product mix to higher margin intelligent device market products and a shift
within the imaging market from network interface cards to higher margin
semiconductor devices. Amortization expense related to capitalized software
development costs was $435,100 and $382,700 in the fiscal years ended January
31, 2001 and 2000, respectively.

SELLING AND MARKETING EXPENSES.  Selling and marketing expenses consist mainly
of employee related expenses, commissions to sales representatives, trade shows,
publicity and travel expenses. Selling and marketing expenses increased to $10.8
million, or 28.8% of net sales, in the fiscal year ended January 31, 2001 from
$7.6 million, or 23.7% of net sales, in the fiscal year ended January 31, 2000,
representing an increase of 42.2%. The increase in selling and marketing
expenses was the result of (i) an increase in marketing costs of approximately
$927,000 associated with the introduction of new products, expanded advertising
and publicity programs, greater participation in trade shows and costs
associated with Internet and web marketing activities; (ii) additional sales
commissions of approximately $575,000 due to increased sales and the expansion
of our network of distributors and authorized developers; (iii) additional
payroll costs related to the expansion of our direct sales and marketing teams
in the United States, Europe and Asia; and (iv) payroll, recruiting and other
costs associated with investments made to expand our customer support
department.

ENGINEERING, RESEARCH AND DEVELOPMENT EXPENSES.  Engineering, research and
development expenses consist primarily of salaries and the related costs of
employees engaged in research, design and development activities, net of
capitalized software costs. Engineering, research and development costs
increased to $7.1 million, or 18.9% of net sales, in the fiscal year ended
January 31, 2001 from $3.1 million, or 9.7% of net sales, in the fiscal year
ended January 31, 2000, representing an increase of 128.8%. The increase was due
primarily to (i) an increase of $1.6 million in payroll and recruiting costs
associated with an increase in headcount from 34 employees engaged in research
and development activities at January 31, 2000 to 53 employees at January 31,
2001. The increase in headcount includes the addition of 10 engineers acquired
in connection with our purchase of certain assets of Pacific Softworks, Inc. in
August 2000; (ii) an increase of $1.4 million in contract labor, consulting and
other external product development costs related to our continued investment in
product development, including investments in NET+OS, our Linux based NET+Lx and
advanced microprocessor technology; and (iii) increased depreciation and
amortization of purchased software tools and increased software maintenance
expense. Software development costs of $532,900 and $938,100, in the fiscal
years ended January 31, 2001 and 2000, respectively, were capitalized and are
being amortized to cost of sales over the products' useful lives, typically two
to three years.

GENERAL AND ADMINISTRATIVE EXPENSES.  General and administrative expenses
consist mainly of salaries, employee-related expenses, legal expenses, audit
fees and provisions to accounts receivable allowances. General and
administrative expenses increased to $4.7 million, or 12.5% of net sales, in the
fiscal year ended January 31, 2001 from $3.6 million, or 11.2% of net sales, in
the fiscal year ended January 31, 2000, representing an increase of 32.1%. The
increase in general and administrative expenses is attributable to an

                                        28
<PAGE>   30

increase in legal, accounting and insurance costs of $799,000, an increase in
payroll costs of $529,000, and increases in rent expense, related to our lease
of additional space at our headquarters in Massachusetts and rent at our new
facility in California, higher investor relations costs, increased costs related
to the expansion of our information systems infrastructure and an increase in
other costs associated with our first complete year as a public company. General
and administrative expenses included $0 and approximately $200,000 in the fiscal
year ended January 31, 2001 and 2000, respectively, related to changes in the
accounts receivable valuation reserve.

AMORTIZATION OF INTANGIBLE ASSETS.  Amortization of intangible assets consists
of the amortization of intangible assets acquired in connection with the
purchase of certain assets of Pacific Softworks, Inc. in August 2000.
Amortization expense was $337,700, or 0.9% of net sales, in the fiscal year
ended January 31, 2001. We expect that amortization of these intangible assets
will be approximately $130,000 per quarter until August 2003.

INTANGIBLE AND OTHER ASSET IMPAIRMENT CHARGES.  Intangible and other asset
impairment charges consist of nonrecurring charges related to the impairment of
the carrying amount of long-lived and certain intangible assets. Intangible and
other asset impairment charges were $1.5 million, or 4.0% of net sales, in the
fiscal year ended January 31, 2001 compared to $0 in the fiscal year ended
January 31, 2000. In fiscal year 2001, internal and external circumstances
indicated that the carrying amount of our intangible web protocol asset, which
was acquired in connection with the purchase of certain Pacific Softworks, Inc.
assets, and capitalized product development costs, related to a Java-based
development project with a third party vendor, would not be recoverable. An
impairment loss was recorded to write off the web protocol asset, with a
carrying value of $957,000 and the capitalized costs, with a carrying value of
$541,000.

INTEREST INCOME/EXPENSE.  Interest income includes interest earned on cash and
short-term investment balances. Interest expense is the result of our borrowings
against our line of credit with our former lender, Coast Business Credit, and
the interest charged by our former sole shareholder, Sorrento, for our
borrowings from Sorrento. Net interest income was $882,500, or 2.4% of net
sales, in the fiscal year ended January 31, 2001 and consisted of interest
earned on cash and short-term investment balances. Net interest expense was
$206,100, or 0.6% of net sales, in the fiscal year ended January 31, 2000 and
consisted of interest on borrowings from both our line of credit and Sorrento,
offset in part by interest earned on cash and short term investments. The
increase in interest income and the decrease in interest expense from the period
ended January 31, 2001 to the period ended January 31, 2000 are the result of
the proceeds raised by the sale of our stock in conjunction with our initial
public offering on September 15, 1999 and our subsequent repayment of amounts
due Coast Business Credit and Sorrento.

PROVISION FOR INCOME TAXES.  There was no net provision for income taxes for the
fiscal years ended January 31, 2001 and January 31, 2000 due to the net loss in
2001 and utilization of available net operating loss carryforwards. At January
31, 2001 we had federal net operating losses of approximately $4,611,000 and
research and development credits of approximately $457,100 which may be
available to reduce future taxable income. These carryforwards expire at various
dates through 2022. The extent to which net operating loss carryforwards may be
utilized in a single taxable year may be reduced in the event there has been any
ownership change of a taxpayer. Further ownership changes in the future may
reduce the extent to which any net operating losses and credits may be utilized.

FISCAL YEAR ENDED JANUARY 31, 2000 COMPARED TO FISCAL YEAR ENDED JANUARY 31,
1999

NET SALES.  Net sales increased to $31.8 million in the fiscal year ended
January 31, 2000 from $13.4 million in the fiscal year ended January 31, 1999,
representing an increase of 138.1%. The increase in net sales was due primarily
to an increase in OEM customers to which the Company shipped product from 20 in
fiscal year 1999 to 43 in fiscal year 2000 and increased sales to existing OEM
imaging customers due to greater demand for their products. Backlog for our
product and services was approximately $6.0 million and $7.8 million at January
31, 2000 and 1999, respectively, all of which was scheduled to be shipped within
12 months.

Our embedded networking semiconductor and controller products accounted for
94.0% and 90.8% of total net sales in fiscal years 2000 and 1999, respectively.
Software development tools and development boards

                                        29
<PAGE>   31

accounted for 2.0% and 3.4% of total net sales in fiscal years 2000 and 1999,
respectively, and 4.0% and 5.8% of net sales in fiscal years 2000 and 1999,
respectively, related to royalty, maintenance and service revenue.

COST OF SALES; GROSS MARGIN.  Cost of sales consists principally of the cost of
raw material components and subcontract labor assembly from outside
manufacturers and suppliers. Cost of sales also includes amortization of
software development costs. Gross profit increased to $16.4 million, or 51.6% of
net sales, in the fiscal year ended January 31, 2000 from $5.9 million, or 43.8%
of net sales, in the fiscal year ended January 31, 1999, representing an
increase of 180.5%. The increase in gross margin percent in fiscal year 2000 was
due primarily to material and subcontract labor cost reductions offset in part
by declining average sales prices. The gross margin percent in fiscal year 1999
was also adversely effected by costs of $224,000 resulting from the late
delivery of the NET+ARM chip from a vendor. Amortization expense related to
capitalized software development costs was $382,700 and $249,600 in the fiscal
years ended January 31, 2000 and 1999, respectively.

SELLING AND MARKETING EXPENSES.  Selling and marketing expenses consist mainly
of employee related expenses, commissions to sales representatives, trade shows,
publicity and travel expenses. Selling and marketing expenses increased to $7.6
million, or 23.7% of net sales, in the fiscal year ended January 31, 2000 from
$3.3 million, or 24.9% of net sales, in the fiscal year ended January 31, 1999,
representing an increase of 126.6%. The increase was the result of (i)
additional sales commissions of $1.4 million due to increased sales volume, (ii)
additional payroll costs of $1.1 million related to the expansion of the sales
force in the United States, Europe and Asia, and (iii) marketing costs
associated with the NET+Works family of products, greater participation in trade
shows, and costs associated with internet and web marketing activities.

ENGINEERING, RESEARCH AND DEVELOPMENT EXPENSES.  Engineering, research and
development expenses consist primarily of salaries and the related costs of
employees engaged in research, design and development activities, net of
capitalized software costs. Engineering, research and development costs
increased to $3.1 million, or 9.7% of net sales, in the fiscal year ended
January 31, 2000 from $1.9 million, or 14.3% of net sales, representing an
increase of 62.0%. The increase was due to increased headcount and related
payroll expenses of $360,000 and increased costs of $228,900 associated with
external product development and depreciation of purchased software and other
assets. Software development costs of $938,100 and $723,600, in the fiscal years
ended January 31, 2000 and 1999, respectively, were capitalized and are being
amortized to cost of sales over the products' useful lives, typically two to
three years. Engineering, research and development expense in fiscal year 2000
includes a charge of $307,100 related to a decrease in the net realizable value
of capitalized development costs.

GENERAL AND ADMINISTRATIVE EXPENSES.  General and administrative expenses
consist mainly of salaries, employee-related expenses, legal expenses, audit
fees and changes to accounts receivable allowances. General and administrative
expenses increased to $3.6 million, or 11.2% of net sales, in the fiscal year
ended January 31, 2000 from $2.2 million, or 16.4% of net sales, in the fiscal
year ended January 31, 1999, representing an increase of 61.8%. The increase in
expenses is associated with the increase in sales and headcount, including
increased payroll and related costs of $431,000 and costs of $221,200 associated
with the development of a newly formed MIS group. In addition, the increase is
due to new and increased costs associated with becoming a public entity,
including an increase in legal, audit, and insurance costs of $261,000 as well
as costs related to investor relations and similar activities. General and
administrative expenses included approximately $200,000 and $300,000 in the
fiscal years ended January 31, 2000 and 1999, respectively, related to increases
in the accounts receivable valuation reserve made to reflect increased risk of
collection.

INTEREST EXPENSE.  Interest expense is the result of the Company's borrowings
against its line of credit with its lender, Coast Business Credit, and the
interest charged by its former sole shareholder, Sorrento, for borrowings made
by the Company from Sorrento, offset by income earned on cash and cash
equivalents and investments. Net interest expense decreased to $206,100, or 0.6%
of net sales, in the fiscal year ended January 31, 2000 from $551,700, or 4.1%
of net sales, in the fiscal year ended January 31, 1999, representing a decrease
of 62.6%. The decrease is due primarily to income earned on cash and investments
of $364,700 in the fiscal year ended January 31, 2000. Interest income earned in
fiscal year 1999 was not material.

                                        30
<PAGE>   32

PROVISION FOR INCOME TAXES.  There was no net provision for income taxes for the
fiscal year ended January 31, 2000 as the provision was offset by available net
operating loss carryforwards. There was no net provision for income taxes for
the fiscal year ended January 31, 1999 because the tax benefits attributable to
continuing operations were offset by the tax provision attributable to
discontinued operations. At January 31, 2000, the Company had federal net
operating losses of approximately $3,513,400 and research and development
credits of $221,000 which may be available to reduce future taxable income;
these carryforwards expire at various dates through 2014. The extent to which
net operating loss carryforwards may be utilized in a single taxable year may be
reduced in the event there has been any ownership change of a taxpayer. Further
ownership changes in the future may reduce the extent to which any net operating
losses and credits may be utilized.

LIQUIDITY AND CAPITAL RESOURCES

Prior to our public offering in September, 1999 we financed our operations
through advances from Sorrento and borrowings under our short-term bank line of
credit. The Company received proceeds, net of offering costs, of approximately
$22.2 million as a result of the initial public offering and sale of our stock.
At January 31, 2001 we had working capital of $19.1 million and cash and cash
equivalents of $6.0 million.

Our operating activities used cash of $2.3 million, provided cash of $6.4
million, and used cash of $1.9 million in the fiscal years ended January 31,
2001, 2000 and 1999, respectively. Cash used by operating activities in fiscal
year 2001 was attributable to increases in inventory, accounts receivable and a
net loss for the period, offset in part by the non-cash impact of depreciation,
amortization and asset impairment charges. The increase in accounts receivable
and inventory relate to the growth in sales. The increase in inventory is also
due to larger volume purchases of certain electronic components that were made
to decrease the risk to our operations of the sharp fluctuations in the market
supply of the components. The non-cash asset impairment charges relate to the
write-down in fair value of an intangible asset acquired as part of our purchase
of certain assets of Pacific Softworks, Inc. and capitalized product development
costs related to a Java-based development project with a third party vendor.
Cash provided in fiscal year 2000 was attributable to net income for the period,
an increase in other current liabilities, a decrease in accounts receivable and
the non-cash impact of depreciation and amortization, offset in part by
increases in inventory and other current assets. The increase in other current
liabilities in fiscal year 2000 related primarily to an increase in commissions
payable. Cash used during fiscal year 1999 was due to a net loss, growth in
inventory and accounts receivable caused by increased demand for our products,
offset in part by an increase in accounts payable and other current liabilities
and the non-cash impact of depreciation and amortization.

To support our anticipated growth, we expect that our sales and marketing
expenses, engineering, research and development expenses and general and
administrative expenses each will increase in the fiscal year ending January 31,
2002 and thereafter compared to the amounts of such expenses in the fiscal year
ending January 31, 2001. Due in part to an economic slowdown affecting our
imaging customers, we anticipate a decline in imaging revenue growth in fiscal
year 2002 which will adversely effect our results of operations and financial
condition and may result in operating losses for all or part of fiscal year
2002. We expect to return to profitability in the fourth quarter of 2002 or the
first quarter of 2003. There can be no assurance that our available cash and
cash flow from operations will be sufficient to fund such additional expenses.

Our standard payment terms are net 30 days. While we actively pursue collection
within that time, receivables have frequently taken longer to collect in part
because we sell products to large companies in Asia.

Our investing activities used cash of $2.0 million, $10.6 million and $928,500
in fiscal years ended January 31, 2001, 2000 and 1999, respectively. Cash used
in investing activities during fiscal year 2001 related primarily to purchases
of $1.8 million of property and equipment, software development costs of
$532,900 and an increase in other assets, offset in part by proceeds of $1.5
million from the sale of short-term investments. Cash used in investing
activities in fiscal year 2000 related primarily to the purchases of $8.2
million of short-term investments and $1.4 million of property and equipment and
$938,100 of software development costs. Cash used in fiscal year 1999 related to
software development costs of $723,600 and an increase in other assets of
$525,700, offset in part by the transfer of capitalized software, in the amount
of $577,400, to Sorrento.

                                        31
<PAGE>   33

On August 31, 2000, we issued 90,000 shares of common stock, valued at $2.3
million and incurred $570,000 of acquisition-related costs in connection with
the acquisition of the strategic network technology assets of Pacific Softworks,
Inc. The total purchase price was $2.8 million and was allocated to the tangible
and intangible assets acquired. On February 16, 2001, subsequent to the fiscal
year end, we issued 241,667 shares of common stock valued at $1.2 million, paid
cash of $250,000, incurred $116,500 of acquisition-related costs and assumed
$834,900 of liabilities in connection with the acquisition of Dimatech
Corporation. The total purchase price was $2.4 million and was allocated to the
tangible and intangible assets acquired.

Financing activities used cash of $812,700 in the fiscal year ended January 31,
2001 and provided cash of $14.7 million and $3.2 million during the fiscal years
ended January 31, 2000 and 1999, respectively. Cash used by financing activities
during fiscal year 2001 related primarily to loans to an officer of the company
in the amount of $871,200 and the repayment of short-term debt of $779,700,
offset in part by proceeds from the exercise of stock options of $1.1 million.
Cash provided by financing activities in fiscal year 2000 related to proceeds of
$22.2 million from the sale of common stock in connection with our initial
public offering in September 1999 which were offset in part by repayments of
advances from Sorrento of $5.1 million and repayments of short-term debt of $2.4
million. Cash provided by financing activities in fiscal year 1999 was due
primarily to net loans from Sorrento of $3.0 million.

We anticipate that our available cash resources will be sufficient to meet our
presently anticipated capital requirements through the next 12 months.
Nonetheless, we may elect to sell additional equity securities or to obtain
additional credit. Our future capital requirements may vary materially from
those now planned and will depend on many factors, including, but not limited
to, the levels at which we maintain inventory and accounts receivable; the
market acceptance of our products; the levels of promotion and advertising
required to launch products or enter markets and attain a competitive position
in the marketplace; volume pricing concessions; our business, product, capital
expenditure and research and development plans and technology roadmap; capital
improvements to new and existing facilities; technological advances; the
response of competitors to our products; and our relationships with suppliers
and customers. In addition, we may require an increase in the level of working
capital to accommodate planned growth, hiring and infrastructure needs.
Additional capital may be required for consummation of any acquisitions of
businesses, products or technologies. We may need to raise additional funds
through public or private financings or borrowings if existing resources and
cash generated from operations are insufficient to fund our future activities.
No assurance can be given that additional financing will be available or that,
if available, such financing can be obtained on terms favorable to our
shareholders and us. If additional funds are raised through the issuance of
equity securities, the percentage ownership of then current stockholders will be
reduced and such equity securities may have rights, preferences or privileges
senior to those of holders of our common stock. If adequate funds are not
available to satisfy short- or long-term capital requirements, we may be
required to limit our operations significantly.

EFFECTS OF INFLATION AND CURRENCY EXCHANGE RATES

We believe that the relatively moderate rate of inflation in the United States
over the past few years has not had a significant impact on our sales or
operating results or on the prices of raw materials. There can be no assurance,
however, that inflation will not have a material adverse effect on our operating
results in the future.

Substantially all of our sales are currently denominated in U.S. dollars and to
date our business has not been significantly affected by currency fluctuations.
However, we conduct business in several different countries and thus
fluctuations in currency exchange rates could cause our products to become
relatively more expensive in particular countries, leading to a reduction in
sales in those countries. In addition, inflation in such countries could
increase our expenses. In the future, we will engage in foreign currency
denominated sales and pay material amounts of expenses in foreign currencies
and, in such events, may experience gains and losses due to currency
fluctuations. Our operating results could be adversely affected by such
fluctuations.

IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS

In June 1998, the Financial Accounting Standards Board, or FASB, issued
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities," SFAS No. 133. SFAS No. 133 provides a comprehensive

                                        32
<PAGE>   34

and consistent standard for the recognition and measurement of derivatives and
hedging activities and requires all derivatives to be recorded on the balance
sheet at fair value. SFAS No. 133, as amended, is effective for years beginning
after June 15, 2000. To date, we have not engaged in derivative and hedging
activities, and accordingly, the adoption of SFAS No. 133 has not had a material
impact on our results of operations, financial position or cash flows.

In March 2000, the FASB issued FASB Interpretation, or FIN No. 44, "Accounting
for Certain Transactions Involving Stock Compensation -- an Interpretation of
APB Opinion No. 25." FIN 44 primarily clarifies the definition of an employee
for purposes of applying APB Opinion No. 25, the criteria for determining
whether a plan qualifies as a noncompensatory plan, the accounting consequences
of various modifications to the terms of previously fixed stock option awards,
and the accounting for an exchange of stock compensation awards in a business
combination. The application of FIN 44 did not have a significant impact on our
results of operations, financial position or cash flows.

ITEM 7A.     QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK:

We own financial instruments that are sensitive to market risks as part of our
investment portfolio. The investment portfolio is used to preserve our capital
until it is required to fund operations, including our research and development
activities. None of these market-risk sensitive instruments are held for trading
purposes. We do not own derivative financial instruments in our investment
portfolio. The investment portfolio contains instruments that are subject to the
risk of a decline in interest rates.

INVESTMENT RATE RISK.  Our investment portfolio includes debt instruments that
primarily have durations of less than one year. These bonds are subject to
interest rate risk, and could decline in value if interest rates fluctuate. Our
investment portfolio also at times includes certain commercial paper which is
also subject to interest rate risk. Due to the short duration and conservative
nature of these instruments, we do not believe that we have a material exposure
to interest rate fluctuations.

WE HAVE FOREIGN OPERATIONS IN EUROPE.  As a result, we are exposed to
fluctuations in foreign exchange rates. However, we do not expect that changes
in foreign exchange rates will have a significant impact on our results of
operations, financial position or cash flows. We plan to continue to expand our
operations globally which may increase our exposure to foreign exchange
fluctuations. Our acquisition of Dimatech Corporation headquartered in Tokyo,
Japan in February 2001, is an example of this expansion.

ITEM 8.     FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA:

NetSilicon's Financial Statements, together with the related Independent
Auditor's Report, appear at pages F-1 through F-23, respectively, of this Form
10-K.

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

Not applicable.

                                    PART III

ITEM 10.     DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT:

The information required by this item is incorporated by reference from
NetSilicon's definitive Proxy Statement for its 2001 annual meeting of
stockholders (the "Proxy Statement") under the captions "Election of Directors"
and "Section 16(a) Beneficial Ownership Reporting Compliance."

                                        33
<PAGE>   35

ITEM 11.     EXECUTIVE COMPENSATION:

The information required by this item is incorporated by reference from the
definitive Proxy Statement under the caption "Compensation and Other Information
Concerning Directors and Officers."

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

The information required by this item is incorporated by reference from the
definitive Proxy Statement in the tables under the captions "Principal
Shareholders" and "Election of Directors."

ITEM 13.     CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS:

The information required by this item is incorporated by reference from the
definitive Proxy Statement under the caption "Certain Transactions."

                                    PART IV

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

(a) The following documents are filed as part of this Annual Report on Form
10-K:

     (1) Financial Statements listed under Part II, Item 8.

     (2) Financial Statement Schedules. Financial statement schedules have been
         omitted because the required information is not present or not present
         in amounts sufficient to require submission of the schedule, or because
         the information required is included in the financial statements or the
         notes thereto.

(b) Reports on Form 8-K:

    On November 14, 2000, we filed Amendment No. 1 to Form 8-K filed on
    September 15, 2000 related to the acquisition of certain assets of Pacific
    Softworks Technology, Inc. The amended document includes historical audited
    financial statements of Pacific Softworks, Inc. as of and for the periods
    ended December 31, 1999 and 1998 and the unaudited pro forma combined
    balance sheet as of July 29, 2000 and unaudited pro forma combined
    statements of operations for the six months ended July 29, 2000 and the year
    ended January 31, 2000.

(c) The exhibits listed in the Exhibit Index immediately preceding the Exhibits
    are filed or incorporated by reference as part of this Annual Report on Form
    10-K.

(d) Financial Statement Schedules: The financial statement schedules required by
    this item, if any, are listed under Item 14(a)(2).

                                        34
<PAGE>   36

                                   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.

                                           NETSILICON, INC.

                                      By:     /s/ Cornelius Peterson VIII
                                          --------------------------------------

                                          Cornelius Peterson VIII
                                          Chairman of the Board and Chief
                                              Executive Officer

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

<TABLE>
<CAPTION>
                    NAME                                         TITLE                         DATE
                    ----                                         -----                         ----
<S>                                           <C>                                           <C>

/s/ CORNELIUS PETERSON VIII                   Chairman of the Board and Chief Executive     May 1, 2001
--------------------------------------------    Officer (Principal Executive Officer)
Cornelius Peterson VIII

/s/ DANIEL J. SULLIVAN                        Vice President, Finance, Chief Financial      May 1, 2001
--------------------------------------------    Officer (Principal Financial and
Daniel J. Sullivan                              Accounting Officer)

/s/ MICHAEL K. BALLARD                        Director                                      May 1, 2001
--------------------------------------------
Michael K. Ballard

/s/ FRANCIS E. GIRARD                         Director                                      May 1, 2001
--------------------------------------------
Francis E. Girard

/s/ WILLIAM JOHNSON                           Director                                      May 1, 2001
--------------------------------------------
William Johnson

/s/ EDWARD B. ROBERTS                         Director                                      May 1, 2001
--------------------------------------------
Edward B. Roberts

/s/ F. GRANT SAVIERS                          Director                                      May 1, 2001
--------------------------------------------
F. Grant Saviers
</TABLE>

                                        35
<PAGE>   37

                                NetSilicon, Inc.

                       CONSOLIDATED FINANCIAL STATEMENTS

                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
FINANCIAL STATEMENTS                                            PAGE
--------------------                                            ----
<S>                                                           <C>
Report of Independent Certified Public Accountants..........  F-2
Consolidated Balance Sheets as of January 31, 2001 and
  2000......................................................  F-3
Consolidated Statements of Operations for the Years Ended
  January 31, 2001, 2000 and 1999...........................  F-4
Consolidated Statements of Stockholders' Equity (Deficit)
  for the Years Ended January 31, 2001, 2000 and 1999.......  F-5
Consolidated Statements of Cash Flows for the Years Ended
  January 31, 2001, 2000 and 1999...........................  F-6
Notes to Consolidated Financial Statements..................  F-7-F-24
</TABLE>

                                       F-1
<PAGE>   38

               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

The Board of Directors of
NetSilicon, Inc.

We have audited the accompanying consolidated balance sheets of NetSilicon, Inc.
and subsidiary as of January 31, 2001 and 2000 and the related consolidated
statements of operations, stockholders' equity (deficit) and cash flows for each
of the three years in the period ended January 31, 2001. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

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

In our opinion the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
NetSilicon, Inc. and subsidiary as of January 31, 2001 and 2000, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended January 31, 2001 in conformity with accounting
principles generally accepted in the United States of America.

                                          /s/ BDO SEIDMAN, LLP
                                          --------------------------------------

Boston, Massachusetts
February 23, 2001

                                       F-2
<PAGE>   39

                                NetSilicon, Inc.

                          CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                     JANUARY 31,
                                                              --------------------------
                                                                 2001           2000
                                                              -----------    -----------
<S>                                                           <C>            <C>
                           ASSETS
CURRENT ASSETS
  Cash and equivalents......................................  $ 5,999,200    $11,096,500
  Short-term investments....................................    6,794,400      8,203,700
  Accounts receivable, net..................................    4,660,300      2,266,000
  Inventory, net............................................    6,707,000      4,322,400
  Notes receivable from officer.............................      871,200             --
  Prepaid expenses and other current assets.................      757,400        798,900
                                                              -----------    -----------
          TOTAL CURRENT ASSETS..............................   25,789,500     26,687,500
PROPERTY AND EQUIPMENT, NET.................................    2,335,200      1,466,400
                                                              -----------    -----------
OTHER ASSETS
  Capitalized software, net.................................      990,800        770,700
  Intangible assets, net....................................    1,351,800             --
  Other assets..............................................      933,800        855,900
                                                              -----------    -----------
          TOTAL OTHER ASSETS................................    3,276,400      1,626,600
                                                              -----------    -----------
TOTAL ASSETS................................................  $31,401,100    $29,780,500
                                                              ===========    ===========
            LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
  Short-term debt...........................................  $        --    $   779,700
  Short-term portion of capital lease obligation............       10,400         78,000
  Accounts payable..........................................    2,787,100      3,013,200
  Due to affiliate..........................................           --         56,900
  Deferred revenue..........................................      343,000         52,500
  Other current liabilities.................................    3,547,300      3,192,200
                                                              -----------    -----------
          TOTAL CURRENT LIABILITIES.........................    6,687,800      7,172,500
CAPITAL LEASE OBLIGATION, less current portion..............           --        125,100
                                                              -----------    -----------
          TOTAL LIABILITIES.................................    6,687,800      7,297,600
                                                              -----------    -----------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
  Preferred stock, $0.01 par value; 5,000,000 authorized;
     none issued............................................           --             --
  Common stock, $0.01 par value; 35,000,000 authorized;
     issued and outstanding:
     Voting, 6,810,100 and 6,037,500 shares.................       68,100         60,400
     Non-voting, 6,972,700 and 7,500,000 shares.............       69,700         75,000
  Additional paid-in capital................................   28,187,400     24,755,400
  Accumulated other comprehensive income (loss).............       26,500        (26,400)
  Accumulated deficit.......................................   (3,638,400)    (2,381,500)
                                                              -----------    -----------
          TOTAL STOCKHOLDERS' EQUITY........................   24,713,300     22,482,900
                                                              -----------    -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY..................  $31,401,100    $29,780,500
                                                              ===========    ===========
</TABLE>

          See accompanying notes to consolidated financial statements.

                                       F-3
<PAGE>   40

                                NetSilicon, Inc.

                     CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
                                                            FISCAL YEAR ENDED JANUARY 31,
                                                      -----------------------------------------
                                                         2001           2000           1999
                                                      -----------    -----------    -----------
<S>                                                   <C>            <C>            <C>
NET SALES...........................................  $37,382,100    $31,840,900    $13,373,000
COST OF SALES.......................................   15,188,300     15,422,900      7,520,000
                                                      -----------    -----------    -----------
  GROSS MARGIN......................................   22,193,800     16,418,000      5,853,000
                                                      -----------    -----------    -----------
OPERATING EXPENSES:
  Selling and marketing.............................   10,753,500      7,560,300      3,336,400
  Engineering, research and development.............    7,054,200      3,083,500      1,902,900
  General and administrative........................    4,689,900      3,550,500      2,194,400
  Amortization of intangible assets.................      337,700             --             --
  Intangible and other asset impairment charges.....    1,497,900             --             --
                                                      -----------    -----------    -----------
          TOTAL OPERATING EXPENSES..................   24,333,200     14,194,300      7,433,700
                                                      -----------    -----------    -----------
OPERATING INCOME (LOSS) FROM CONTINUING
  OPERATIONS........................................   (2,139,400)     2,223,700     (1,580,700)
  Interest income (expense), net of interest income
     of $364,700 in 2000............................      882,500       (206,100)      (551,700)
                                                      -----------    -----------    -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE
  INCOME TAXES......................................   (1,256,900)     2,017,600     (2,132,400)
  Income taxes......................................           --             --             --
                                                      -----------    -----------    -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS............   (1,256,900)     2,017,600     (2,132,400)
LOSS FROM DISCONTINUED OPERATIONS...................           --             --       (289,800)
                                                      -----------    -----------    -----------
NET INCOME (LOSS)...................................  $(1,256,900)   $ 2,017,600    $(2,422,200)
                                                      ===========    ===========    ===========
INCOME (LOSS) PER COMMON SHARE
  From continuing operations
     Basic..........................................  $     (0.09)   $      0.18    $     (0.21)
     Diluted........................................  $     (0.09)   $      0.17    $     (0.21)
  From discontinued operations
     Basic..........................................  $        --    $        --    $     (0.03)
     Diluted........................................  $        --    $        --    $     (0.03)
  Net income (loss) per common share
     Basic..........................................  $     (0.09)   $      0.18    $     (0.24)
     Diluted........................................  $     (0.09)   $      0.17    $     (0.24)
SHARES USED IN PER SHARE CALCULATIONS
     Basic..........................................   13,674,200     11,326,600     10,000,000
     Diluted........................................   13,674,200     11,978,200     10,000,000
</TABLE>

          See accompanying notes to consolidated financial statements.

                                       F-4
<PAGE>   41

                                NetSilicon, Inc.

           CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

<TABLE>
<CAPTION>
                                                                    ACCUMULATED
                                                                       OTHER
                                 COMMON STOCK        ADDITIONAL    COMPREHENSIVE                      TOTAL         COMPREHENSIVE
                             ---------------------     PAID-IN        INCOME       ACCUMULATED    STOCKHOLDERS'        INCOME
                               SHARES      AMOUNT      CAPITAL        (LOSS)         DEFICIT     EQUITY (DEFICIT)      (LOSS)
                             ----------   --------   -----------   -------------   -----------   ----------------   -------------
<S>                          <C>          <C>        <C>           <C>             <C>           <C>                <C>
BALANCE AT JANUARY 31,
  1998.....................  10,000,000   $100,000   $ 2,463,000     $     --      $(1,976,900)    $   586,100
Net loss and comprehensive
  loss.....................          --         --            --           --       (2,422,200)     (2,422,200)      $(2,422,200)
                             ----------   --------   -----------     --------      -----------     -----------       ===========
BALANCE AT JANUARY 31,
  1999.....................  10,000,000    100,000     2,463,000           --       (4,399,100)     (1,836,100)
Sale of common stock, net
  of issuance costs of
  $788,000.................   3,537,500     35,400    22,213,700           --               --      22,249,100
Issuance of common stock
  options to
  non-employees............          --         --        78,700           --               --          78,700
Net income.................          --         --            --           --        2,017,600       2,017,600       $ 2,017,600
Unrealized loss on
  short-term investments...          --         --            --      (26,400)              --         (26,400)          (26,400)
                                                                                                                     -----------
Comprehensive income.......          --         --            --           --               --              --       $ 1,991,200
                             ----------   --------   -----------     --------      -----------     -----------       ===========
BALANCE AT JANUARY 31,
  2000.....................  13,537,500    135,400    24,755,400      (26,400)      (2,381,500)     22,482,900
Common stock issued in
  connection with asset
  acquisition..............      90,000        900     2,270,700           --               --       2,271,600
Common stock issued under
  stock plans..............     155,300      1,500     1,086,300           --               --       1,087,800
Issuance of common stock
  options to
  non-employees............          --         --        75,000           --               --          75,000
Net loss...................          --         --            --           --       (1,256,900)     (1,256,900)      $(1,256,900)
Unrealized gain on
  short-term investments...          --         --            --       52,900               --          52,900            52,900
                                                                                                                     -----------
Comprehensive loss.........          --         --            --           --               --              --       $(1,204,000)
                             ----------   --------   -----------     --------      -----------     -----------       ===========
BALANCE AT JANUARY 31,
  2001.....................  13,782,800   $137,800   $28,187,400     $ 26,500      $(3,638,400)    $24,713,300
                             ==========   ========   ===========     ========      ===========     ===========
</TABLE>

          See accompanying notes to consolidated financial statements.

                                       F-5
<PAGE>   42

                                NetSilicon, Inc.

                     CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                           FISCAL YEAR ENDED JANUARY 31,
                                                     ------------------------------------------
                                                        2001            2000           1999
                                                     -----------    ------------    -----------
<S>                                                  <C>            <C>             <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
  Net income (loss)................................  $(1,256,900)   $  2,017,600    $(2,422,200)
  Adjustments to reconcile net income (loss) to net
     cash provided by (used in) operating
     activities:
     Depreciation and amortization.................    1,815,400       1,127,300        666,400
     Intangible and other asset impairment
       charges.....................................    1,497,900              --             --
     Stock option compensation -- non-employee.....           --          78,700             --
     Changes in operating assets and liabilities,
       net of effects of acquisition:
       (Increase) decrease in accounts
          receivable...............................   (2,302,800)      1,938,500       (609,200)
       (Increase) decrease in inventories..........   (2,384,600)       (553,100)    (1,161,900)
       (Increase) decrease in other current
          assets...................................       41,500        (560,300)       (66,000)
       Increase (decrease) in accounts payable.....     (226,100)        223,400      1,012,500
       Increase (decrease) in other current
          liabilities..............................      224,800       2,112,100        686,100
       Increase (decrease) in deferred revenue.....      290,500          52,500             --
                                                     -----------    ------------    -----------
          NET CASH PROVIDED BY (USED IN) OPERATING
            ACTIVITIES.............................   (2,300,300)      6,436,700     (1,894,300)
                                                     -----------    ------------    -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
  Proceeds from (purchases of) short-term
     investments...................................    1,462,200      (8,230,100)            --
  Purchases of property and equipment..............   (1,848,600)     (1,322,400)      (256,600)
  Software development costs.......................     (532,900)       (938,100)      (723,600)
  Capitalized software transferred to Sorrento.....           --              --        577,400
  Direct acquisition costs.........................     (439,800)             --             --
  Other assets.....................................     (625,200)        (84,500)      (525,700)
                                                     -----------    ------------    -----------
          NET CASH USED IN INVESTING ACTIVITIES....   (1,984,300)    (10,575,100)      (928,500)
                                                     -----------    ------------    -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
  Issuance of notes receivable to officer..........     (871,200)             --             --
  Proceeds (repayments) of affiliates advances.....      (56,900)     (5,147,900)     3,033,800
  Proceeds (repayments) of short-term debt, net....     (779,700)     (2,411,800)       204,400
  Repayments of long-term debt, net................           --              --        (17,900)
  Payments of capital lease obligation.............     (192,700)        (37,100)            --
  Proceeds from issuance of stock..................           --      22,249,100             --
  Proceeds from exercise of stock options..........    1,087,800              --             --
                                                     -----------    ------------    -----------
          NET CASH PROVIDED BY (USED IN) FINANCING
            ACTIVITIES.............................     (812,700)     14,652,300      3,220,300
                                                     -----------    ------------    -----------
INCREASE (DECREASE) IN CASH AND EQUIVALENTS........   (5,097,300)     10,513,900        397,500
CASH AND EQUIVALENTS BEGINNING OF YEAR.............   11,096,500         582,600        185,100
                                                     -----------    ------------    -----------
CASH AND EQUIVALENTS END OF YEAR...................  $ 5,999,200    $ 11,096,500    $   582,600
                                                     ===========    ============    ===========
</TABLE>

          See accompanying notes to consolidated financial statements.

                                       F-6
<PAGE>   43

                                NetSilicon, Inc.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NetSilicon, Inc. (the "Company") develops and markets embedded Ethernet
networking solutions, which combine advanced microprocessors and software, to
manufacturers building intelligent, network-enabled devices. The Company's
products provide intelligent devices and embedded systems with the ability to
communicate over standards-based local-area networks, or LANs, and the Internet,
enabling the development of new embedded systems applications. The Company
believes that it offers the first comprehensive solution that, in conjunction
with a physical interface and memory, encompass all of the hardware and software
necessary to allow intelligent electronic devices incorporating embedded systems
to communicate with other devices. NetSilicon's customers are in a broad array
of markets including telecommunications and telephony, industrial automation,
office imaging, building automation and control, home automation, data
acquisition, point-of-sale, and wireless access. NetSilicon's devices are
incorporated into office imaging equipment, including printers, scanners, fax
machines, copiers and multi-function devices manufactured by over 20
manufacturers including Minolta, Ricoh, Sharp and Xerox. The Company's products
are also in various stages of incorporation into the design and manufacture of
other intelligent devices including power plant automation equipment, medical
data collection and monitoring devices, Internet/Ethernet cameras for security,
voice-over-IP telephones, point-of-sale scanners, scales and teller machines,
networked exercise equipment, and utility measurement and environment monitoring
equipment.

The accompanying financial statements are the responsibility of the management
of the Company.

A. The Company and Basis of Presentation

The Company was incorporated in Massachusetts on April 17, 1984 under the name
of Digital Products, Inc. In September 1996, Sorrento Networks Corporation,
formerly Osicom Technologies, Inc., ("Sorrento") acquired sole ownership of the
Company through a merger with a newly-formed corporation in exchange for
Sorrento common stock in a transaction accounted for as a pooling of interests.
On September 15, 1999, the Company completed an initial public offering of its
common stock. As of January 31, 2001, Sorrento held a 50.6% non-voting interest
in the Company.

The Company was comprised of two product lines: OEM and Stand-Alone Print
Server. The Company developed both board and system-level products to satisfy
the specific design needs of OEMs and stand-alone solutions for end-user
customers. The end-user customers were addressed through value-added resellers
and distributors; this sales activity is referred to as Stand-Alone Print Server
Line sales. The Company had decided to focus its resources on the future
development of its NET+Works family of products within the OEM line.

As a result, in May 1998, the Company sold its Stand-Alone Print Server Line to
Sorrento, which consisted principally of specific sales employees and
capitalized software related to Stand-Alone Print Server products. Based on this
transaction, the Company has accounted for the Stand-Alone Print Server Line as
a discontinued operation. The Company did not realize a gain or loss on sale as
Sorrento purchased the capitalized software and other miscellaneous assets at
their book value as of the date of purchase. Sales, cost of sales, selling,
marketing, engineering, general and administrative, research and development
expenses included in discontinued operations within the Company's historical
Statements of Operations represent only those transactions specific to the
Stand-Alone Print Server Line.

For periods prior to the Company's initial public offering in September 1999,
general and administrative expenses include an amount that management considered
to be a reasonable allocation of general corporate expenses. Management and
administrative salaries were allocated based upon estimated time devoted to the
Company's operations; all other allocations of general corporate expenses,
including public company costs, were based upon specific identification of the
relationship of the Company's operations to the total operations

                                       F-7
<PAGE>   44
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

of Sorrento. Selling and marketing and general and administrative expenses in
the fiscal year ended January 31, 1999 include $80,000 of allocated corporate
overhead expenses.

The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiary, NetSilicon GmbH. All significant intercompany
transactions and balances have been eliminated.

B. Summary of Significant Accounting Policies

Cash and Equivalents and Short-term Investments -- All highly liquid debt
instruments purchased with remaining maturities of three months or less are
classified as cash equivalents. Management determines the classification of debt
and equity securities at the time of purchase and reevaluates the classification
at each balance sheet date. The Company classifies its short-term investments as
available-for-sale and therefore records them at fair value with unrealized
gains and losses, net of taxes, reported as a component of accumulated other
comprehensive income (loss). All available-for-sale securities are classified as
current assets. The cost of investments sold, for purposes of calculating
realized gains and losses, is determined using the first-in, first-out method.
Realized gains and losses are recognized in the statement of operations.

Use of Estimates -- The financial statements are prepared in conformity with
generally accepted accounting principles which require management to make
estimates that affect the reported amounts of assets, liabilities, revenues and
expenses, the disclosure of contingent assets and liabilities and the values of
purchased assets and assumed liabilities in acquisitions. Actual results could
differ from these estimates.

Accounts and Notes Receivable -- In the normal course of business, the Company
extends unsecured credit to its customers related to the sales of various
products. Typically credit terms require payment within thirty days from the
date of shipment. The Company evaluates and monitors the creditworthiness of
each customer on a case-by-case basis.

Allowance for Doubtful Accounts -- The Company provides an allowance for
doubtful accounts based on its continuing evaluation of its customers' credit
risk. The Company generally does not require collateral from its customers.

Inventory -- Inventory, comprised of raw materials, work in process, finished
goods and spare parts, is stated at the lower of cost (first-in, first-out
method) or market. Inventories consisted of:

<TABLE>
<CAPTION>
                                                                    JANUARY 31,
                                                              ------------------------
                                                                 2001          2000
                                                              ----------    ----------
<S>                                                           <C>           <C>
Raw material................................................  $7,041,500    $2,882,800
Work in process.............................................     126,800     1,938,200
Finished goods..............................................      49,500       126,400
                                                              ----------    ----------
                                                               7,217,800     4,947,400
Less: Valuation reserve.....................................     510,800       625,000
                                                              ----------    ----------
                                                              $6,707,000    $4,322,400
                                                              ==========    ==========
</TABLE>

Fair Value of Financial Instruments -- The fair value of financial instruments
is determined by reference to various market data and other valuation techniques
as appropriate. Management believes that there are no material differences
between the recorded book values of its financial instruments, which include
cash and equivalents, short-term investments, accounts receivable and accounts
payable, and their estimated fair value.

Property and Equipment -- Property and equipment are recorded at historical
cost. Depreciation and amortization is provided using the straight-line method
over the estimated useful lives of two to seven years for computer and other
equipment, purchased software, and furniture and fixtures. Leasehold
improvements are

                                       F-8
<PAGE>   45
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

amortized over the shorter of the remaining lease term or the estimated useful
life of the improvement using the straight-line method.

Capitalized leases are initially recorded at the present value of the minimum
payments at the inception of the contracts, with an equivalent liability
categorized as appropriate under current or non-current liabilities. Such assets
are depreciated on the same basis as described above. Interest expense, which
represents the difference between the minimum payments and the present value of
the minimum payments at the inception of the lease, is allocated to accounting
periods using a constant rate of interest over the term of the lease.

Property and equipment are reviewed for impairment whenever events or
circumstances indicate that the asset's undiscounted expected cash flows are not
sufficient to recover its carrying amount. The Company measures impairment loss
by comparing the fair market value, calculated as the present value of expected
future cash flows, to its net book value. Impairment losses, if any, are
recorded currently.

Software Development -- Software development costs where technological
feasibility has not been established are expensed in the period in which they
occurred, otherwise, development costs that will become an integral part of the
Company's products are deferred in accordance with Statement of Financial
Accounting Standards ("SFAS") Nos. 2 and 86. The deferred costs are amortized to
cost of sales using the straight-line method over the remaining estimated two to
three year economic life of the product or the ratio that current revenues for
the product bear to the total of current and anticipated future revenues for
that product. Amortization expense for the fiscal years ended January 31, 2001,
2000 and 1999 was $435,100, $382,700 and $249,600, respectively.

The recoverability of capitalized software costs are reviewed on an ongoing
basis primarily based upon projections of discounted future operating cash flows
from each software product line. The excess amount, if any, of the remaining net
book value over the calculated amount is fully reserved. Engineering, research
and development expense in fiscal year 2000 includes a charge of $307,100
related to a decrease in the net realizable value of capitalized development
costs.

Intangible Assets -- Intangible assets consist of completed technology,
assembled workforce and other assets arising from the acquisition of a business
or business assets. These intangible assets are amortized using the
straight-line method over their estimated useful lives of three years.

Intangible assets are reviewed for impairment whenever events or circumstances
indicate that the asset's undiscounted expected future cash flows are not
sufficient to recover its carrying amount. The Company measures impairment loss
by comparing the fair market value, calculated as the present value of expected
future cash flows, to its net book value or carrying amount. Impairment losses,
if any, are recorded currently.

Revenue Recognition -- The Company's revenues are derived primarily from the
sale of product to its OEM customers and to a lesser extent from the sale of
software licenses, fees associated with technical support, training and
engineering services and royalties. The Company recognizes revenue when
persuasive evidence of an arrangement exists, delivery has occurred, the sales
price is fixed or determinable, collectibility is probable and there are no
post-delivery obligations. Revenue from the sale of hardware products, including
embedded networking semiconductors and controller products, is generally
recognized upon shipment. Revenue from service obligations is deferred and
recognized at the time the service is provided or over the life of the
underlying service or support contract, if applicable.

The Company's software development tools and developments boards often include
multiple elements - hardware, software, post contract customer support ("PCS"),
limited training and a basic hardware design review. Our customers purchase
these products and services during their product development process in which
they use the tools to build network connectivity into the devices they are
manufacturing. The Company recognizes revenue related to these multiple element
arrangements in accordance with Statement of Position ("SOP") No. 97-2 "Software
Revenue Recognition," as amended by SOP 98-4, "Deferral of the Effective Date of
Certain Provisions of SOP 97-2." Revenue related to the sale of these
development products is

                                       F-9
<PAGE>   46
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

allocated to the various elements based on vendor-specific objective evidence of
fair value. The portion of revenue allocated to hardware and software licenses
is recognized upon shipment. The portion of the revenue allocated to PCS is
recognized ratably over the term of the PCS arrangement and the portion of
revenue allocated to training and the hardware design review are recognized when
the service is performed.

The Company's customers have a limited right of return. The Company records an
estimated reserve for warranty costs and an allowance for sales returns during
the month of shipment.

The Company's embedded networking semiconductor and controller products
accounted for 88.3%, 94.0%, and 90.8% of total net sales in fiscal years 2001,
2000 and 1999, respectively. Software development tools and development boards
accounted for 5.6%, 2.0%, and 3.4% of total net sales in fiscal years 2001, 2000
and 1999, respectively, and 6.1%, 4.0%, and 5.8% of net sales in fiscal years
2001, 2000, and 1999, respectively, related to royalty, maintenance and service
revenue.

Income Taxes -- Income taxes are accounted for in accordance with SFAS No. 109
"Accounting for Income Taxes." The statement employs an asset and liability
approach for financial accounting and reporting of deferred income taxes
generally allowing for recognition of deferred tax assets in the current period
for future benefit of net operating loss and research credit carryforwards as
well as items for which expenses have been recognized for financial statement
purposes but will be deductible in future periods. A valuation allowance is
recognized if, on the weight of available evidence, it is more likely than not
that some portion or all of the deferred tax assets will not be realized.

Income and Loss Per Common Share -- The Company computes per share data in
accordance with SFAS No. 128, "Earnings Per Share." SFAS 128 requires dual
presentation of basic and diluted earnings per share on the face of the income
statement. It also requires a reconciliation of the numerator and denominator of
the basic EPS computation to the numerator and denominator of the diluted EPS
computation. Basic income and loss per common share is computed by dividing net
income or loss available to common shareholders by the weighted average number
of common shares outstanding during each period presented. Diluted EPS is based
on the weighted average number of common shares outstanding as well as dilutive
potential common shares, which in the Company's case consist of convertible
securities outstanding, warrants to acquire common stock and shares issuable
under stock benefit plans. Potential common shares are not included in the
diluted loss per share computation if their effect would be anti-dilutive.

Stock-Based Compensation -- The Company follows SFAS No. 123, "Accounting for
Stock Based Compensation." SFAS No. 123 encourages, but does not require,
companies to record compensation cost for stock-based employee compensation. The
Company has chosen to continue to account for employee stock-based compensation
utilizing the intrinsic value method prescribed in Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees." Accordingly,
compensation cost for stock options issued to employees is measured as the
excess, if any, of the fair market price of the Company's stock at the date of
grant over the amount an employee must pay to acquire the stock. As required by
SFAS No. 123, the Company records compensation for stock options issued to
non-employees, in exchange for product or services, utilizing the fair value
method outlined in SFAS No. 123.

Foreign Currency Translation -- The functional currency of the foreign
subsidiary is the local currency. Accordingly, assets and liabilities of the
subsidiary are translated using the exchange rates in effect at the end of the
period, while income and expenses are translated at average rates of exchange
during the period. Gains and losses from translation of foreign operations are
included as other comprehensive income or loss and were not significant for any
of the periods presented.

Derivative Instruments -- In June 1998, the FASB issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS 133
provides a comprehensive and consistent standard for the recognition and
measurement of derivatives and hedging activities and requires all derivatives
to be recorded

                                       F-10
<PAGE>   47
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

on the balance sheet at fair value. SFAS 133, as amended, is effective for years
beginning after June 15, 2000. To date, we have not engaged in derivative and
hedging activities, and accordingly, the adoption of SFAS No. 133 has not had a
material impact on our results of operations, financial position or cash flows.

Recent Accounting Pronouncements -- In March 2000, the FASB issued FASB
Interpretation, or FIN No. 44, "Accounting for Certain Transactions Involving
Stock Compensation -- an Interpretation of APB Opinion No. 25." FIN 44 primarily
clarifies the definition of an employee for purposes of applying APB Opinion No.
25, the criteria for determining whether a plan qualifies as a noncompensatory
plan, the accounting consequences of various modifications to the terms of
previously fixed stock option awards, and the accounting for an exchange of
stock compensation awards in a business combination. The application of FIN 44
did not have a significant impact on our results of operations, financial
position or cash flows.

Reclassifications -- Certain prior period amounts have been reclassified to
conform to the current period presentation. These reclassifications had no
effect on net income (loss) or stockholders' equity.

C. Short-Term Investments

Short-term investments consist of the following available-for-sale securities:

<TABLE>
<CAPTION>
                                                                          UNREALIZED
                                                                      ------------------
                                        AMORTIZED                     HOLDING    HOLDING
                                           COST       MARKET VALUE     GAINS     LOSSES
                                        ----------    ------------    -------    -------
<S>                                     <C>           <C>             <C>        <C>
January 31, 2001:
Corporate bonds.......................  $1,199,100     $1,203,800     $ 4,700    $    --
Medium and short-term notes...........   1,650,600      1,655,700       5,100         --
Euro dollar bonds.....................   3,918,200      3,934,900      16,700         --
                                        ----------     ----------     -------    -------
Total.................................  $6,767,900     $6,794,400     $26,500    $    --
                                        ==========     ==========     =======    =======
January 31, 2000:
Corporate bonds.......................  $2,038,700     $2,026,900     $    --    $11,800
Medium and short-term notes...........   2,426,600      2,419,600          --      7,000
Euro dollar bonds.....................   3,764,800      3,757,200          --      7,600
                                        ----------     ----------     -------    -------
Total.................................  $8,230,100     $8,203,700     $    --    $26,400
                                        ==========     ==========     =======    =======
</TABLE>

The corporate bonds, medium and short-term notes, and euro dollar bonds all
mature within one year. The Company realized no gains or losses on the sale of
short-term investments in 2001 and 2000.

D. Property and Equipment

Property and equipment of the Company consisted of the following components:

<TABLE>
<CAPTION>
                                                                   JANUARY 31,
                                                            --------------------------
                                                               2001           2000
                                                            -----------    -----------
<S>                                                         <C>            <C>
Manufacturing, engineering and plant equipment and
  software................................................  $ 5,116,800    $ 3,856,000
Equipment held under capital lease........................      240,200        240,200
Office furniture and fixtures.............................      740,000        347,700
Leasehold and building improvements.......................      327,100        185,800
                                                            -----------    -----------
          Total property and equipment....................    6,424,100      4,629,700
Less: Accumulated depreciation............................   (4,088,900)    (3,163,300)
                                                            -----------    -----------
Net book value............................................  $ 2,335,200    $ 1,466,400
                                                            ===========    ===========
</TABLE>

                                       F-11
<PAGE>   48
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

Depreciation expense was $1,042,600, $437,600 and $416,800 for the fiscal years
ended January 31, 2001, 2000 and 1999, respectively.

E. Short-Term Debt

Short-term debt at January 31, 2000 of $779,700 consisted of borrowings under a
$5,000,000 line of credit with Coast Business Credit. The line of credit was
collateralized by substantially all of the assets of the Company and a guarantee
by Sorrento. Interest on related borrowings was at the bank's prime rate plus
2.5%, but not less than 8%. Advances under the line were limited to 80% of
eligible receivables and 30% of eligible inventory. The highest amount and
average amounts of debt outstanding were $4,021,500 and $2,277,100 during the
year ended January 31, 2000 and the weighted average interest rate for the year
ended January 31, 2000 was 10.4%. The Company terminated the line of credit with
Coast Business Credit shortly after January 31, 2000 and repaid the balance due.

On July 31, 2000 the Company obtained a $5,000,000 revolving line of credit with
a bank, which expires May 31, 2001, and is available to fund working capital.
Borrowings under the line of credit are secured by certain Company assets,
including inventory and accounts receivable, and bear interest at the prime rate
plus 0.25% (9.25% at January 31, 2001). The maximum available credit under the
revolving line of credit is equal to the lesser of $5,000,000 and the then
effective borrowing base, as defined in the bank agreement and calculated as a
percentage of accounts receivable. The agreement requires that the Company
maintain certain financial ratios among other restrictive covenants. There were
no borrowings under the revolving line during the fiscal year ended January 31,
2001.

F. Other Current Liabilities

Other current liabilities consisted of the following:

<TABLE>
<CAPTION>
                                                                    JANUARY 31,
                                                              ------------------------
                                                                 2001          2000
                                                              ----------    ----------
<S>                                                           <C>           <C>
Commissions and royalties...................................  $  410,300    $1,343,800
External product development costs..........................     440,000        53,000
Compensation and benefits...................................   1,225,000       851,300
Other.......................................................   1,472,000       944,100
                                                              ----------    ----------
          Total.............................................  $3,547,300    $3,192,200
                                                              ==========    ==========
</TABLE>

G. Receivable from Officer and Affiliate Transactions

During fiscal year 2001, the Company's Chairman and Chief Executive Officer
signed two secured personal promissory notes, borrowing a total of $871,200 from
the Company. The notes accrue interest, commencing on their respective due
dates, at the rate of 8.0% per year, and are due in April and October 2001. The
notes are secured by personal assets owned by the Chairman and Chief Executive
Officer.

In the ordinary course of business a wholly-owned subsidiary of Sorrento,
Uni-Precision Industrial, Ltd., manufactured and assembled products for the
Company on a competitive bid basis. During the years ended January 31, 2001,
2000 and 1999 purchases from Uni-Precision were $74,800, $3,365,900 and
$1,557,200 of which $56,900 was unpaid at January 31, 2000. During fiscal year
2001, the Company began using an alternative sub-contractor and does not
currently conduct business with Uni-Precision.

During fiscal years 2000 and 1999, the Company had transactions with another
subsidiary of Sorrento. Charges to this subsidiary for manufactured goods and
other expenses, including charges related to the sale of

                                       F-12
<PAGE>   49
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

the Company's Stand-Alone Print Server Line, for the years ended January 31,
2000 and 1999 were approximately $1,893,800 and $1,410,500, respectively.

From time to time the Company had received non-interest bearing advances,
including payments of expenses on behalf of the Company, from Sorrento. As of
January 31, 1998, Sorrento began accruing interest on the outstanding balance at
prime rate plus 3% per year. Interest expense attributable to borrowings from
Sorrento amounted to $264,500 and $353,000 for the years ended January 31, 2000
and 1999, respectively. The amount due to Sorrento was repaid following the
Company's initial public offering in the fiscal year ended January 31, 2000.

H. Leases and Other Commitments

(i) Leases

Rental expense under operating leases was $622,500, $455,800 and $460,500 for
the years ended January 31, 2001, 2000 and 1999, respectively. The table below
sets forth minimum payments under operating leases with remaining terms in
excess of one year, at January 31, 2001:

<TABLE>
<CAPTION>
                                                           OPERATING
                                                             LEASES
                                                           ----------
<S>                                                        <C>
2002.....................................................  $  793,300
2003.....................................................     776,000
2004.....................................................     150,600
                                                           ----------
                                                           $1,719,900
                                                           ==========
</TABLE>

In July 1999, the Company entered into a capital lease for certain equipment
that expires in June 2002. At January 31, 2001 and 2000, the net book value of
the equipment under the capital lease amounted to $148,700 and $210,200,
respectively. The remaining capital lease obligation is $10,400 at January 31,
2001.

(ii) Employment Contracts

The Company has employment agreements with certain executives. An agreement with
the Vice President, Industrial Automation, Embedded Markets Europe provides for
a base annual salary of $125,000 subject to annual review by the Compensation
Committee and requires six months notice for termination without cause. An
agreement with the Vice President, Finance and Chief Financial Officer contains
provisions for the payment of one year's base annual salary and the vesting of
his unvested stock options if his employment is terminated without cause. The
Company has an agreement with the President and Chief Operating Officer that
provides for 18 months of base salary if his employment is terminated without
cause within the first twenty-four months of his employment. The Company also
has agreed with the Chief Executive Officer that if the Company is sold to, or
merges with, a company unaffiliated with the Company or Sorrento, all of his
stock options granted at the closing of the Company's initial public offering
would vest immediately.

I. Litigation

On August 31, 2000, Websprocket, LLC filed a suit against the Company in the
United States District Court for the Northern District of California
(Websprocket, LLC v. NetSilicon, Inc., Civil Action No. C-00-20915), claiming
breach of contract. The complaint alleges that the Company breached a technology
development contract that was executed between the Company and Websprocket, LLC
in December 1999. Websprocket, LLC seeks relief including alleged damages of
$2,000,000 plus attorney's fees, a declaration of its rights under the
technology development contract and an injunction requiring the Company to cease
using and return all property of Websprocket, LLC. The Company believes that it
has meritorious

                                       F-13
<PAGE>   50
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

defenses to the claims and intends to contest the lawsuit vigorously. On or
about October 31, 2000, the Company denied the allegations in Websprocket, LLC's
complaint and asserted counterclaims against Websprocket, LLC that included
breach of contract, fraud, and negligent misrepresentation. An unfavorable
resolution of the action could have a material adverse effect on the business,
results of operations or financial condition of the Company.

J. Stockholders' Equity

(i) The Company amended its articles of organization in August 1998 to authorize
the issuance of the following shares: 35,000,000 shares of Common Stock ($0.01
par value) 5,000,000 shares of Preferred Stock ($0.01 par value).

The Company's Board of Directors has discretion to issue preferred stock in such
series and with such preferences as it may designate without the approval of the
holders of common shares.

(ii) On June 30, 1999, the Company effected a 100,000-for-one stock split
resulting in 10,000,000 shares being issued and outstanding post-split. In
connection with the split, Sorrento exchanged its 10,000,000 shares of common
stock for 9,000,000 shares of non-voting and 1,000,000 shares of voting common
stock.

All shareholders' equity accounts have been retroactively restated to reflect
these changes.

(iii) The Company completed an initial public offering on September 15, 1999 in
which 6,037,500 million shares were offered at $7 per share (3,537,500 shares
sold by the Company and 2,500,000 shares sold by Sorrento). Proceeds to the
Company, net of offering costs, were approximately $22.2 million.

The Company has 6,810,100 shares of voting common stock outstanding and
6,972,700 shares of non-voting common stock held by Sorrento as of January 31,
2001.

(iv) On September 12, 2000, the Board of Directors of NetSilicon declared a
dividend of one preferred share purchase right (a "Right") for each share of
common stock outstanding on September 23, 2000 to the stockholders of record on
that date, as part of a rights plan designed to protect the Company's investors
against any potential takeover attempts that are coercive or unfair. The Rights
will be exercisable only if a person or group acquires or announces a tender or
exchange offer that would result in such person or group owning 15% or more of
the voting securities of the Company. Each Right entitles the registered holder
to purchase, at an exercise price of $200.00 per Right, Series A Junior
Participating Preferred Stock of the Company having a market value of $400.00.
The nature of the preferred shares' dividend, liquidation and voting rights are
such that the value of the Preferred Stock purchasable upon exercise of the
Right should approximate the value of a common share. The Rights will expire on
September 12, 2010 unless the expiration date is extended or the Rights redeemed
by the Company. The Company will generally be entitled to redeem the Rights at
$0.01 per Right at any time prior to the 10th day after a person or group has
acquired a 15% voting stock position.

K. Business Acquisitions and Other Capital Stock Transactions

On August 31, 2000, the Company completed the acquisition of the strategic
network technology assets (the "Purchased Assets") of Pacific Softworks
Technology, Inc. ("Pacific"), a subsidiary of PASW, Inc. (formerly Pacific
Softworks, Inc.). The Purchased Assets, which represented substantially all of
the assets of Pacific, will be used by the company to develop and license
embedded network protocols, software that enables electronic devices to
communicate over local and wide area networks.

                                       F-14
<PAGE>   51
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

The purchase price was allocated to the tangible and intangible assets acquired
and liabilities assumed on the basis of their respective estimated fair values
on the acquisition date, as follows:

<TABLE>
<S>                                                        <C>
Completed Technology.....................................  $2,417,700
Workforce................................................     228,700
Fixed Assets.............................................     103,700
Accounts Receivable......................................      91,500
                                                           ----------
Total purchase price.....................................  $2,841,600
                                                           ==========
</TABLE>

The purchase price consisted of 90,000 shares of common stock of the Company,
valued at $2,271,600 and $570,000 of acquisition-related costs, including
$400,000 for investment banking fees and fees for legal, accounting and
consulting. The purchased completed technology and workforce assets are being
amortized over three years.

During the fourth quarter of fiscal year 2001, the Company recorded an
impairment charge of $957,000 related to a component of the completed technology
intangible asset resulting from the Company's decision to no longer sell or
market the underlying products.

The summary table below, prepared on an unaudited pro forma basis, combines the
results of operations of the Company with the results of operations of Pacific
as if the acquisition of the Purchased Assets had occurred at February 1, 1999.
The unaudited pro forma results are not necessarily indicative of what would
have occurred if the acquisition had been in effect for the periods presented
and are not necessarily indicative of future operating results.

<TABLE>
<CAPTION>
                                                              YEAR ENDED JANUARY 31,
                                                            --------------------------
                                                               2001           2000
                                                            -----------    -----------
<S>                                                         <C>            <C>
Revenue...................................................  $38,544,800    $34,083,400
Net loss..................................................  $(3,546,900)   $(1,328,600)
Basic and diluted net loss per share......................  $     (0.26)   $     (0.12)
</TABLE>

L. Employee Retirement Savings Plan

In fiscal year 2001, the Company established an employee retirement savings plan
(the "Savings Plan") that is designed to qualify as a deferred salary
arrangement under Section 401(k) of the Internal Revenue code. Under the Savings
Plan, participating employees may defer a portion of their pre-tax earnings, up
to the Internal Revenue Service annual contribution limit ($10,500 for calendar
year 2001). Each Plan year, the Company may make discretionary matching
contributions of a percent, if any, of employee pretax contributions. As of
January 31, 2001, there were no discretionary matching contributions made by the
Company.

M. Stock Option Plans and Stock Award Plan

The Company adopted two stock option plans in August 1998: The 1998 Incentive
and Non-Qualified Stock Option Plan and the 1998 Director Option Plan. The
purpose of these plans is to attract, retain, motivate and reward officers,
directors, employees and consultants of the Company to maximize their
contribution towards the Company's success. All options are granted at prices
not less than fair market value at the date of grant and have exercise lives
varying up to 10 years and vest over 1.5 to 4 years. The Company's stock option
plans authorize the issuance of 6,800,000 shares of common stock for the grant
of stock options.

Additionally, certain employees of the Company held options to purchase Sorrento
common stock under Sorrento's stock option plans. All of these options were
granted prior to the Company's initial public offering in September 1999.

                                       F-15
<PAGE>   52
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

The following table summarizes the activity in the Company's stock option plans:

<TABLE>
<CAPTION>
                                                                           WEIGHTED AVERAGE
                                                       NUMBER OF SHARES     EXERCISE PRICE
                                                       ----------------    ----------------
<S>                                                    <C>                 <C>
Shares under option at January 31, 1999..............            --                --
  Granted............................................     3,320,778             $7.53
  Exercised..........................................            --                --
  Canceled...........................................        (5,325)             7.00
                                                          ---------
Shares under option at January 31, 2000..............     3,315,453              7.53
  Granted............................................     2,549,030             15.53
  Exercised..........................................      (155,280)             7.00
  Canceled...........................................      (658,054)            13.75
                                                          ---------
Shares under option at January 31, 2001..............     5,051,149             10.85
                                                          =========
</TABLE>

Additional information about outstanding options to purchase the Company's
common stock held by at January 31, 2001 is as follows:

<TABLE>
<CAPTION>
                                         OUTSTANDING                         EXERCISABLE
                          -----------------------------------------   --------------------------
                                            WEIGHTED AVERAGE
                                      -----------------------------             WEIGHTED AVERAGE
EXERCISE PRICE PER SHARE   SHARES     LIFE (YEARS)   EXERCISE PRICE   SHARES     EXERCISE PRICE
------------------------  ---------   ------------   --------------   -------   ----------------
<S>                       <C>         <C>            <C>              <C>       <C>
$ 3.08 to $ 6.94            903,730       9.83           $ 4.91        31,250        $ 6.35
$ 7.00                    2,626,569       8.62             7.00       682,706          7.00
$12.44 to $18.00            893,650       9.07            17.51        59,063         15.10
$18.75 to $34.13            627,200       9.40            26.05        79,375         28.60
                          ---------                                   -------
$ 3.08 to $34.13          5,051,149       9.02            10.85       852,394          9.55
                          =========                                   =======
</TABLE>

All stock options issued to employees have an exercise price not less than the
fair market value of the common stock on the date of grant, and in accordance
with the accounting for such options utilizing the intrinsic value method there
is no related compensation expense recorded in the Company's financial
statements. Had compensation cost for stock-based compensation related to the
grant of Company and Sorrento options been determined based on the fair value at
the grant dates in accordance with the method delineated in SFAS No. 123, the
Company's income (loss) and per share amounts for the years ended January 31,
2001, 2000 and 1999 would have been revised to the pro forma amounts presented
below:

<TABLE>
<CAPTION>
                                                             JANUARY 31,
                                               ----------------------------------------
                                                  2001           2000          1999
                                               -----------    ----------    -----------
<S>                                            <C>            <C>           <C>
Net income (loss):
  As reported................................  $(1,256,900)   $2,017,600    $(2,422,200)
  Pro forma..................................   (8,590,500)      734,200     (2,702,200)
Basic income (loss) per share:
  As reported................................  $     (0.09)   $     0.18    $     (0.24)
  Pro forma..................................        (0.63)         0.06          (0.27)
Diluted income (loss) per share:
  As reported................................  $     (0.09)   $     0.17    $     (0.24)
  Pro forma..................................        (0.63)         0.06          (0.27)
</TABLE>

The fair value of option grants is estimated on the date of grant utilizing the
Black-Scholes option-pricing model with the following weighted average
assumptions for grants during the year ended January 31, 2001 and

                                       F-16
<PAGE>   53
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

2000, respectively: expected life of option 4.5 years and 4.5 years, expected
volatility of 80.0% and 45.8%, risk-free interest rate of 4.5% and 5.88% and a
0% dividend yield in both years. The fair value, at date of grant, using these
assumptions was $1.98 to $22.16 per option and the weighted average was $10.06
in fiscal year 2001. The fair value, at date of grant, using these assumptions
was $3.18 to $10.34 per option and the weighted average was $3.42 in fiscal year
2000.

The assumptions for grants of Sorrento options for the year ended January 31,
2000 and 1999 were: expected life of option 3 years, expected volatility of 45%,
risk-free interest rate of 5.28% and a 0% dividend yield. The fair value, at
date of grant, using these assumptions was $1.23 to $9.52 per option and the
weighted average was $5.57 in 2000 and $3.11 in 1999.

During fiscal year 2001, the Company issued warrants to purchase 20,000 shares
of common stock at a weighted average exercise price of $17.56 per share. The
warrants were issued in connection with a third party product development
agreement. The Company capitalized the fair value of the warrants, $75,000, as
capitalized software costs on the balance sheet. During the year ended January
31, 2000, the Company issued non-statutory options to non-employees for the
purchase of 25,000 shares of common stock at a weighted average exercise price
of $7.00 per share. Such options were granted for services provided during the
year. Accordingly, the Company recorded the $78,700 fair value of such awards as
an expense in the accompanying financial statements.

In April 2000, the Company's board of directors adopted the 2000 Employee Stock
Purchase Plan ("ESPP"). The aggregate number of shares which may be issued under
the plan is 500,000 and is subject to adjustment. The ESPP allows eligible
participating employees to purchase shares of common stock as determined at
specific dates at six month intervals. As of January 31, 2001, approximately
$104,000 of payroll deductions were withheld from employees for future purchases
under the plan.

N. Income Taxes

The Company's provision for taxes on income consists of the following:

<TABLE>
<CAPTION>
                                                              YEARS ENDED JANUARY 31,
                                                              -----------------------
                                                              2001     2000     1999
                                                              -----    -----    -----
<S>                                                           <C>      <C>      <C>
Income taxes:
Current.....................................................   $--      $--      $--
Deferred....................................................   --       --       --
                                                               --       --       --
Total.......................................................   --       --       --
Allocation of tax expense to discontinued operations........   --       --       --
                                                               --       --       --
Income tax benefit..........................................   $--      $--      $--
                                                               ==       ==       ==
</TABLE>

The Company's operations generate permanent and temporary differences for
depreciation, amortization and valuation allowances. The Company has recorded a
100% valuation allowance against its deferred tax assets, including net
operating loss and research credit carryforwards, in accordance with the
provisions of Statement of Financial Accounting Standards No. 109. Such
allowance is recognized if, based on the weight of available evidence, it is
more likely than not that some portion or all of the deferred tax assets will
not be realized.

                                       F-17
<PAGE>   54
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

Deferred income taxes reflect the impact of temporary differences between the
amount of assets and liabilities recognized for financial reporting purposes and
such amounts recognized for tax purposes. Deferred tax assets and liabilities
are comprised of the following:

<TABLE>
<CAPTION>
                                                                   JANUARY 31,
                                                            --------------------------
                                                               2001           2000
                                                            -----------    -----------
<S>                                                         <C>            <C>
Deferred tax assets:
  Reserves and allowances.................................  $   741,700    $   559,800
  Research and development credits........................      457,100        221,000
  Tax loss carryforward...................................    1,927,500      1,480,900
  Intangible assets.......................................      512,800             --
  Fixed assets............................................      207,400             --
  Other...................................................           --        150,500
                                                            -----------    -----------
     Gross deferred tax assets............................    3,846,500      2,412,200
  Less: valuation allowance...............................   (3,428,900)    (2,087,400)
                                                            -----------    -----------
Deferred tax asset........................................      417,600        324,800
                                                            -----------    -----------
Deferred tax liabilities:
  Software developments costs.............................     (417,600)      (324,800)
                                                            -----------    -----------
     Deferred tax liabilities.............................     (417,600)      (324,800)
                                                            -----------    -----------
     Net deferred tax asset (liab)........................  $        --    $        --
                                                            ===========    ===========
</TABLE>

At January 31, 2001, the Company has federal net operating losses of
approximately $4,611,000 and research and development credits of $457,100 that
may be available to reduce future taxable income; these carryforwards expire at
various dates through 2022. The Internal Revenue Code of 1986, as amended,
reduces the extent to which NOLs and tax credit carryforwards may be utilized in
a single taxable year in the event there has been an ownership change of a
company as defined by applicable Code provisions. The acquisition of the Company
by Sorrento in September 1996 resulted in such an ownership change. Further
ownership changes, as defined by the Code, may reduce the extent to which any
net operating losses and credits may be utilized.

These carryforwards expire as follows:

<TABLE>
<CAPTION>
                                                          NOL        CREDITS
                                                       ----------    --------
<S>                                                    <C>           <C>
2008.................................................  $       --    $ 54,800
2009.................................................          --     102,300
2010.................................................     384,800      63,900
2013.................................................     998,100          --
2014.................................................   2,130,500          --
2022.................................................   1,097,600     236,100
                                                       ----------    --------
                                                       $4,611,000    $457,100
                                                       ==========    ========
</TABLE>

                                       F-18
<PAGE>   55
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

The reconciliation between income tax expense and a theoretical United States
tax computed by applying a rate of 35% for the fiscal years ended January 31,
2001, 2000 and 1999 is as follows:

<TABLE>
<CAPTION>
                                                       YEARS ENDED JANUARY 31,
                                               ----------------------------------------
                                                  2001           2000          1999
                                               -----------    ----------    -----------
<S>                                            <C>            <C>           <C>
Income (loss) before income taxes from
  continuing operations......................  $(1,256,900)   $2,017,600    $(2,132,400)
                                               ===========    ==========    ===========
Theoretical tax expense (benefit) at 35%.....  $  (439,900)   $  706,200    $  (746,300)
Taxable income absorbed by former parent.....           --      (988,600)            --
Impact of non-qualified stock options........     (353,900)           --        (24,300)
Impact of state taxes and other taxes........     (159,900)      186,300       (284,900)
R & E tax credit.............................     (457,100)           --             --
Change in valuation allowance................    1,341,500        96,100      1,055,500
Other........................................       69,300            --             --
                                               -----------    ----------    -----------
Tax benefit..................................  $        --    $       --    $        --
                                               ===========    ==========    ===========
</TABLE>

The net change in the valuation allowance was an increase of $1,341,500 for the
fiscal year ending January 31, 2001 and an increase of $96,100 for the fiscal
year ending January 31, 2000. The valuation allowance of $3,428,900 at January
31, 2001 includes $426,200 related to deductions for non-qualified stock options
which will be credited to additional paid-in capital if realized.

O. Earnings Per Share Calculation

The following data show the amounts used in computing basic earnings per share:

<TABLE>
<CAPTION>
                                                       YEARS ENDED JANUARY 31,
                                               ----------------------------------------
                                                  2001           2000          1999
                                               -----------    ----------    -----------
<S>                                            <C>            <C>           <C>
Net income (loss)............................  $(1,256,900)   $2,017,600    $(2,422,200)
Less: preferred dividends....................           --            --             --
                                               ===========    ==========    ===========
Net income (loss) available to common
  shareholders used in basic EPS.............  $(1,256,900)   $2,017,600    $(2,422,200)
                                               ===========    ==========    ===========
Average number of common shares used in basic
  EPS........................................   13,674,200    11,326,600     10,000,000
                                               ===========    ==========    ===========
</TABLE>

The Company had a net loss for the fiscal years ending January 31, 2001 and
1999. Accordingly, the effect of dilutive securities including warrants to
acquire common stock and stock options, vested and non-vested, are not included
in the calculations of EPS because their effect would be anti-dilutive. The
following data shows the effect on income and the weighted average number of
shares of dilutive potential common stock.

<TABLE>
<CAPTION>
                                                       YEARS ENDED JANUARY 31,
                                              -----------------------------------------
                                                 2001           2000           1999
                                              -----------    -----------    -----------
<S>                                           <C>            <C>            <C>
Net income (loss) available to common
  shareholders used in basic EPS............  $(1,256,900)   $ 2,017,600    $(2,422,200)
Adjustments.................................           --             --             --
                                              -----------    -----------    -----------
Net income (loss) available to common
  shareholders after assumed conversions of
  dilutive securities.......................  $(1,256,900)   $ 2,017,600    $(2,422,200)
                                              ===========    ===========    ===========
</TABLE>

                                       F-19
<PAGE>   56
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

<TABLE>
<CAPTION>
                                                       YEARS ENDED JANUARY 31,
                                              -----------------------------------------
                                                 2001           2000           1999
                                              -----------    -----------    -----------
<S>                                           <C>            <C>            <C>
Average number of common shares used in
  basic EPS.................................   13,674,200     11,326,600     10,000,000
Effect of dilutive securities:
  Stock options.............................           --        651,600             --
                                              -----------    -----------    -----------
Average number of common shares and dilutive
  potential common stock used in dilutive
  EPS.......................................   13,674,200     11,978,200     10,000,000
                                              ===========    ===========    ===========
</TABLE>

The shares issuable upon exercise of options and warrants represent the
quarterly average of the shares issuable at exercise net of the shares assumed
to have been purchased, at the average market price for the period, with the
assumed exercise proceeds. Accordingly, options with exercise prices in excess
of the average market price for the period are excluded because their effect
would be anti-dilutive. For the year ended January 31, 2001 and 2000, 5,051,100
and 42,000 options, respectively, were excluded from the calculation of diluted
income per share, as their effect would be anti-dilutive.

P. Subsequent Events

On February 16, 2001, the Company purchased all of the equity securities of
Dimatech Corporation ("Dimatech") pursuant to a Stock Purchase Agreement, dated
as of February 16, 2001, among Dimatech, Hiroyuki Kataoka and the Company. Prior
to the acquisition, Dimatech was a major distributor of the Company's product in
Japan and Asia and Hiroyuki Kataoka was the President and owner of Dimatech.
Dimatech, under a new name, will continue to operate in Japan and Asia as a
distributor of the Company's products and will provide technical support and
other services to customers in the region. Hiroyuki Kataoka has joined
NetSilicon as Vice President of Intelligent Device Market for Japan.

The purchase price consisted of 241,667 shares of the common stock of the
Company, valued at $1,239,100, assumed liabilities of $835,000, $250,000 in cash
and $116,500 of acquisition related costs, including legal and accounting fees.

Q. Supplemental Cash Flow Disclosures

Cash paid for interest and income taxes are as follows:

<TABLE>
<CAPTION>
                                                          YEARS ENDED JANUARY 31,
                                                      -------------------------------
                                                       2001        2000        1999
                                                      -------    --------    --------
<S>                                                   <C>        <C>         <C>
Interest............................................  $21,900    $898,400    $262,900
Income taxes........................................  $    --    $     --    $     --
</TABLE>

Non-cash investing and financing activities are as follows:

<TABLE>
<CAPTION>
                                                          YEARS ENDED JANUARY 31,
                                                      -------------------------------
                                                       2001        2000        1999
                                                      -------    --------    --------
<S>                                                   <C>        <C>         <C>
Unrealized gains (losses) on investments............  $52,900    $(26,400)   $     --
Common stock options issued to non-employees........  $75,000    $ 78,700    $     --
Capital leases entered in during the year...........  $    --    $240,200    $     --
</TABLE>

                                       F-20
<PAGE>   57
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

R. Concentrations of Credit Risk

Financial instruments that potentially subject the Company to concentrations of
credit risk consist primarily of temporary cash investments and trade
receivables. The Company places its temporary cash investments with high credit
financial institutions.

Substantially all of the Company's OEM office imaging customers are
headquartered in Japan. The current economic conditions existing in many Asian
countries, including Japan, are uncertain and may have a significant effect on
the business operations of such OEM customers. Consequently, the Company's
dependence on its OEM office imaging customers in Japan and the uncertain
factors affecting Japan's economic condition could have a material adverse
effect on the Company's business, operating results, cash flows and financial
condition.

Although the Company is directly affected by the economic well being of its
significant customers listed in the following tables, management does not
believe that significant credit risk exists at January 31, 2001. The Company
performs ongoing credit evaluations of its customers' financial conditions and
does not require collateral.

The following data shows the customers accounting for more than 10% of net
receivables:

<TABLE>
<CAPTION>
                                                              JANUARY 31,
                                                              ------------
                                                              2001    2000
                                                              ----    ----
<S>                                                           <C>     <C>
Customer A..................................................  17.1%   24.7%
Customer B..................................................  11.0     3.4
Customer C..................................................   6.9    15.3
Customer D..................................................   6.7    11.0
</TABLE>

The following data shows the net sales to major customers (customers who
represented 10% or more of net sales during any of the periods shown) as a
percentage of net sales:

<TABLE>
<CAPTION>
                                                              YEARS ENDED JANUARY 31,
                                                              -----------------------
                                                              2001     2000     1999
                                                              -----    -----    -----
<S>                                                           <C>      <C>      <C>
Customer A..................................................  23.2%    23.8%     9.6%
Customer B..................................................  20.0     25.8      4.3
Customer E..................................................   4.9     12.5     11.6
Customer D..................................................   3.9      5.1     11.4
Customer F..................................................   3.3      2.7     11.6
</TABLE>

S. Discontinued Operation

Effective May 1, 1998 the Company sold its Stand-Alone Print Server Line to
Sorrento as described in Note A. The agreement provides for the terms and
conditions of the transfer by the Company to Sorrento of the right to
manufacture and sell Stand-Alone Print Server products. The agreement provides
that Sorrento shall have the right to manufacture and sell the Company's
Stand-Alone Print Servers to distributors who will then market such products
directly to the consumer. The Company has assigned accounts receivables accruing
after July 31, 1998, computer software and furniture, fixtures, equipment,
software licenses and trademarks to Sorrento. Sorrento will pay any future
licensing fees. Sorrento has the option to acquire inventory of Stand-Alone
Print Servers at the Company's cost during the period of the agreement. The
agreement requires the Company to provide certain engineering support to
Sorrento, for which Sorrento shall pay 100% of the actual cost of such support
to the Company. It also requires Sorrento to assign all its rights in the
trademark NET+ARM to the Company and requires Sorrento to use its best efforts
to obtain consent in writing from

                                       F-21
<PAGE>   58
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

ARM Limited to the assignment of the rights to NET+ARM. The agreement terminated
in 1999. Lastly, Sorrento has agreed to cause certain intellectual property
previously owned by Sorrento to be co-owned by the Company and Sorrento.

The Company entered into a supply agreement with Sorrento pursuant to which the
Company sells to Sorrento several products, including the NET+ARM chips for
fixed prices. The prices are subject to change consistent with any changes in
the Company's costs for such products. The agreement also provides that Sorrento
manufactures products for the Company at Sorrento's best price, as determined by
mutual agreement. The agreement has a term of five years and does not obligate
Sorrento to purchase any products from the Company or the Company to utilize
Sorrento for manufacturing.

The Company and Sorrento entered into a one-year sublease agreement for
approximately 6,000 square feet of office space at the Company's facilities for
an annual rental of $88,000 per year, payable quarterly. The sublease terminated
in September 1999.

T. Segment Information

Information in the tables below is presented on the same basis utilized by the
Company to manage its business. The Company manages its business primarily on a
geographic basis. The Company operates in one principle industry segment: the
development and marketing of embedded networking solutions. The Company's
primary products include integrated semiconductor and controller products and
are sold to customers in a broad array of markets including telecommunications
and telephony, industrial automation, office imaging, building automation and
control, home automation, data acquisition, point-of-sale, and wireless access.
The company licenses software products that are embedded into electronic devices
to enable Internet and Web-based communications. Revenue from these software
product licenses was 1% of total net sales in fiscal year 2001 and less than 1%
in fiscal year 2000. The company also receives revenue from royalty and
services, including technical support.

Summary information by geography is as follows:

     Geographic:

<TABLE>
<CAPTION>
                                                       YEARS ENDED JANUARY 31,
                                              -----------------------------------------
                                                 2001           2000           1999
                                              -----------    -----------    -----------
<S>                                           <C>            <C>            <C>
Net sales:
  United States.............................  $16,669,100    $15,917,000    $ 6,604,600
  Asia......................................   15,090,900     14,153,100      5,277,400
  Europe, Middle East, Africa...............    3,222,800      1,575,700      1,475,000
  Other.....................................    2,399,300        195,100         16,000
                                              -----------    -----------    -----------
          Total net sales...................  $37,382,100    $31,840,900    $13,373,000
                                              ===========    ===========    ===========
</TABLE>

Export sales and certain income and expense items are reported in the geographic
area where the final sale to customers is made, rather than where the
transaction originates. Other net sales include sales to Australia, New Zealand,
Canada and South America for each period presented. The Company does not have
significant long-lived assets at foreign locations.

                                       F-22
<PAGE>   59
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

Summary information by product and service is as follows:

<TABLE>
<CAPTION>
                                                       YEARS ENDED JANUARY 31,
                                              -----------------------------------------
                                                 2001           2000           1999
                                              -----------    -----------    -----------
<S>                                           <C>            <C>            <C>
Net sales:
  Semiconductor and controller products,
     including development tools............  $35,101,900    $30,567,300    $12,597,400
  Royalty, maintenance, service and other...    2,280,200      1,273,600        775,600
                                              -----------    -----------    -----------
          Total net sales...................  $37,382,100    $31,840,900    $13,373,000
                                              ===========    ===========    ===========
</TABLE>

U. Selected Quarterly Financial Data (Unaudited)

The following table sets forth certain unaudited quarterly results of operations
of the Company for the fiscal years ended January 31, 2001 and 2000. In the
opinion of management, this information has been prepared on the same basis as
the audited financial statements and includes all adjustments necessary for a
fair presentation of Company's operations. This quarterly information should be
read in conjunction with the audited financial statements and accompanying notes
included in this annual report on Form 10-K. Operating results for the quarterly
periods are not necessarily indicative of future results of operations. (In
thousands except per share data.)

<TABLE>
<CAPTION>
                                                  FISCAL YEAR 2001                      FISCAL YEAR 2000
                                         -----------------------------------   ----------------------------------
                                         Q1-01    Q2-01     Q3-01     Q4-01    Q1-00    Q2-00     Q3-00    Q4-00
                                         ------   ------   -------   -------   ------   ------   -------   ------
<S>                                      <C>      <C>      <C>       <C>       <C>      <C>      <C>       <C>
Net sales..............................  $9,010   $9,857   $10,688   $ 7,827   $5,814   $7,515   $10,149   $8,363
Cost of sales..........................   3,512    4,129     4,429     3,118    3,208    3,865     4,654    3,696
                                         ------   ------   -------   -------   ------   ------   -------   ------
Gross margin...........................   5,498    5,728     6,259     4,709    2,606    3,650     5,495    4,667
Operating expense......................   4,941    5,223     5,805     8,364    2,352    3,167     4,522    4,153
                                         ------   ------   -------   -------   ------   ------   -------   ------
Operating income(loss).................     557      505       454    (3,655)     254      483       973      514
Interest income (expense)..............     224      241       218       199     (238)    (175)      (68)     275
                                         ------   ------   -------   -------   ------   ------   -------   ------
Net income (loss)......................  $  781   $  746   $   672   $(3,456)  $   16   $  308   $   905   $  789
                                         ======   ======   =======   =======   ======   ======   =======   ======
Earnings per share:
  Basic................................  $ 0.06   $ 0.05   $  0.05   $ (0.25)  $ 0.00   $ 0.03   $  0.08   $ 0.06
  Diluted..............................  $ 0.06   $ 0.05   $  0.04   $ (0.25)  $ 0.00   $ 0.03   $  0.07   $ 0.05
Weighted shares outstanding:
  Basic................................  13,569   13,621    13,718    13,782   10,000   10,000    11,769   13,538
  Diluted..............................  15,865   15,928    15,813    13,782   10,000   10,000    12,435   15,410
</TABLE>

The net loss in the fourth quarter of fiscal year 2001 was due primarily to
non-recurring asset impairment charges of $1.5 million and a decrease in revenue
resulting from an economic slowdown that affected our office imaging customers.

                                       F-23
<PAGE>   60
                                NetSilicon, Inc.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

V. Valuation and Qualifying Accounts

Changes in the inventory valuation reserve were as follows:

<TABLE>
<S>                                                           <C>
Balance at January 31, 1998.................................  $ 192,000
  Additions charged to costs and expenses...................    131,800
  Amounts used during year..................................   (199,200)
                                                              ---------
Balance at January 31, 1999.................................    124,600
  Additions charged to costs and expenses...................    554,500
  Amounts used during year..................................    (54,100)
                                                              ---------
Balance at January 31, 2000.................................    625,000
  Additions charged to costs and expenses...................         --
  Amounts used during year..................................   (114,200)
                                                              ---------
Balance at January 31, 2001.................................  $ 510,800
                                                              =========
</TABLE>

Changes in the accounts receivable and sales valuation reserves were as follows:

<TABLE>
<S>                                                           <C>
Balance at January 31, 1998.................................  $ 17,100
  Additions charged to costs and expenses...................   312,000
  Amounts used during year..................................   (29,100)
                                                              --------
Balance at January 31, 1999.................................   300,000
  Additions charged to costs and expenses...................   443,900
  Amounts used during year..................................   (40,900)
                                                              --------
Balance at January 31, 2000.................................   703,000
  Additions charged to costs and expenses...................        --
  Amounts used during year..................................   (32,000)
                                                              --------
Balance at January 31, 2001.................................  $671,000
                                                              ========
</TABLE>

                                       F-24
<PAGE>   61

                                 EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT
NO.                          DESCRIPTION OF EXHIBIT
-------                      ----------------------
<S>       <C>
3.1       Restated Articles of Organization of the Company, as amended
          (filed as Exhibit 3.1 to the Company's Registration
          Statement on Form S-1 File No. 333-62231, and incorporated
          herein by reference)
3.2       Restated By-Laws of the Company, as amended (filed as
          Exhibit 3.2 to the Company's Quarterly Report on Form 10-Q
          filed on September 12, 2000, and incorporated herein by
          reference)
4.1       Specimen of stock certificate for shares of common stock
          (filed as Exhibit 4 to the Company's Registration Statement
          on Form S-1, File No. 333-62231, and incorporated herein by
          reference)
4.2       Rights Agreement, dated as of September 12, 2000, as
          amended, between the Company and American Stock Transfer and
          Trust Company (filed as Exhibit 4.1 to the Company's current
          report on Form 8-K, filed September 13, 2000, and
          incorporated herein by reference)
10.1      NetSilicon, Inc. Amended and Restated 1998 Incentive and
          Non-qualified Stock Option Plan (filed as Exhibit 10.1 to
          the Company's Registration Statement on Form S-1, File No.
          333-62231, and incorporated herein by reference)
10.2      NetSilicon, Inc. Amended and Restated 1998 Director Stock
          Option Plan (filed as Exhibit 10.2 to the Company's
          Registration Statement on Form S-1, File No. 333-1328, and
          incorporated herein by reference)
10.3      Supply Agreement between Osicom Technologies, Inc. and the
          Company dated as of May 1, 1998 (filed as Exhibit 10.3 to
          the Company's Registration Statement on Form S-1 File No.
          333-62231, and incorporated herein by reference)
10.4      Intercompany Agreement between Osicom Technologies, Inc. and
          the Company dated as of May 1, 1998 (filed as Exhibit 10.4
          to the Company's Registration Statement on Form S-1 File No.
          333-62231, and incorporated herein by reference)
10.5      Agreement of Sublease between Osicom Technologies, Inc. and
          the Company dated as of August 1, 1998 (filed as Exhibit
          10.5 to the Company's Registration Statement on Form S-1
          File No. 333-62231, and incorporated herein by reference)
10.6      Loan and Security Agreement between the Company and Coast
          Business Credit dated October 11, 1996, as amended (filed as
          Exhibit 10.6 to the Company's Registration Statement on Form
          S-1 File No. 333-62231, and incorporated herein by
          reference)
10.7      Amendment No. 2 to the Loan and Security Agreement between
          the Company and Coast Business Credit dated October 28, 1998
          (filed as Exhibit 10.7 to the Company's Registration
          Statement on Form S-1 File No. 333-62231, and incorporated
          herein by reference)
10.8      Employment Agreement between the Company and Michael Evensen
          dated October 1, 1998 (filed as Exhibit 10.8 to the
          Company's Registration Statement on Form S-1 File No.
          333-62231, and incorporated herein by reference)
10.10     Trademark License Agreement between ARM Limited and Sorrento
          dated July 14, 1998 (filed as Exhibit 10.10 to the Company's
          Registration Statement on Form S-1 File No. 333-62231, and
          incorporated herein by reference)
10.11     Software License Agreement between Integrated Systems, Inc.
          and Sorrento dated November 14, 1997, as amended (filed as
          Exhibit 10.11 to the Company's Registration Statement on
          Form S-1 File No. 333-62231, and incorporated herein by
          reference)
10.12     License Agreement between Peerless Systems Corporation and
          Sorrento, DPI Print Server Division for Peerless Standard
          Input/Output (PSIO) dated August 10, 1998 (filed as Exhibit
          10.12 to the Company's Registration Statement on Form S-1
          File No. 333-62231, and incorporated herein by reference)
10.13     Novell Embedded Systems Technology Master Agreement between
          Novell, Inc. and the Company (formerly Digital Products,
          Inc.), dated December 1, 1995, as amended (filed as Exhibit
          10.13 to the Company's Registration Statement on Form S-1
          File No. 333-62231, and incorporated herein by reference)
10.14     Letter Agreement Amendment to Intercompany Agreement between
          Sorrento and the Company (filed as Exhibit 10.14 to the
          Company's Registration Statement on Form S-1 File No.
          333-62231, and incorporated herein by reference)
</TABLE>

                                       Ex-1
<PAGE>   62

<TABLE>
<CAPTION>
EXHIBIT
NO.                          DESCRIPTION OF EXHIBIT
-------                      ----------------------
<S>       <C>
10.15     Letter Agreement between the Company and Cornelius Peterson
          VIII (filed as Exhibit 10.15 to the Company's Registration
          Statement on Form S-1 File No. 333-62231, and incorporated
          herein by reference)
10.16     Employment Agreement, as amended, between the Company and
          Michael Evensen dated as of October 1, 1998 and amended as
          of June 19, 1999.
10.17     Letter Agreement between the Company and Daniel J. Sullivan
          dated as of June 18, 1999.
23.1      Consent of BDO Seidman, LLP, independent accountants
</TABLE>

                                       Ex-2