<PAGE>


                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                      ****
                                   FORM 10-KSB
                                      ****

[X]  Annual report under Section 13 or 15(d) of the Securities Exchange Act of
     1934 for fiscal year ended August 31, 1999.

[ ]  Transition report under Section 13 or 15(d) of the Securities Exchange
Act of 1934. For the transition period from _________ to _________.
Commission File Number 0-10078

         HEI, INC.
----------------------------
(Name of Small Business Issuer in Its Charter)

Minnesota                                 41-0944876
---------                                 ----------
(State or other jurisdiction              (I.R.S. Employer Identification No.)
of incorporation or organization)

P.O. Box 5000, 1495 Steiger Lake Lane, Victoria, MN    55386
---------------------------------------------------    -----
(Address of principal executive offices)               (Zip Code)

Issuer's telephone number, including area code:  (612) 443-2500
                                                 --------------

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

Securities registered pursuant to Section 12(g) of the Exchange Act:

COMMON STOCK, PAR VALUE $.05 PER SHARE
--------------------------------------
(Title of Class)

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

Indicate if no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is contained in this form, and no disclosure will be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB. [ ]

HEI, Inc. revenues for the fiscal year ended August 31, 1999 were $24,323,000.

The aggregate market value as of November 15, 1999 (based on the closing price
as reported by The Nasdaq National Market) of the voting stock held by
non-affiliates was approximately $26,000,000.

As of November 24, 1999, 4,101,965 Common Shares, par value $.05 per share, were
outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Annual Report to Shareholders for the fiscal year ended August
31, 1999 are incorporated by reference into Parts I and II. Portions of the
Proxy Statement for Registrant's Annual Meeting of Shareholders to be held
January 20, 2000 are incorporated by reference into Part III.


<PAGE>

FORWARD-LOOKING STATEMENTS
         THIS ANNUAL REPORT INCLUDES FORWARD-LOOKING STATEMENTS MADE PURSUANT TO
THE SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995. THESE STATEMENTS CONTAIN INFORMATION REGARDING TECHNOLOGY, MARKETS, GROWTH
AND EARNINGS EXPECTATIONS BASED ON THE COMPANY'S CURRENT ASSUMPTIONS INVOLVING A
NUMBER OF RISKS AND UNCERTAINTIES. THERE ARE CERTAIN IMPORTANT FACTORS THAT CAN
CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THE FORWARD-LOOKING STATEMENTS,
INCLUDING, WITHOUT LIMITATION, ADVERSE BUSINESS OR MARKET CONDITIONS; THE
ABILITY OF THE COMPANY TO SECURE AND SATISFY CUSTOMERS; THE AVAILABILITY AND
COST OF MATERIALS FROM HEI'S SUPPLIERS; ADVERSE COMPETITIVE DEVELOPMENTS; CHANGE
IN OR CANCELLATION OF CUSTOMER REQUIREMENTS; THE YEAR 2000 ISSUE; AND OTHER
FACTORS DISCUSSED FROM TIME TO TIME IN THE COMPANY'S FILINGS WITH THE SECURITIES
AND EXCHANGE COMMISSION. READERS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON
FORWARD-LOOKING STATEMENTS; HEI UNDERTAKES NO OBLIGATION TO UPDATE THESE
STATEMENTS TO REFLECT ENSUING EVENTS OR CIRCUMSTANCES, OR SUBSEQUENT ACTUAL
RESULTS.

HEI, Inc. is referred to herein as the Company, unless the context indicates
otherwise.

PART I
Item 1.  DESCRIPTION OF BUSINESS

(a)  BUSINESS DEVELOPMENT
     HEI, Inc., a Minnesota corporation, was incorporated as Hybrid Electronics
     Inc. in 1968 and changed its name to HEI, Inc. in 1969. During fiscal year
     1999, the Company formed a subsidiary, HEI Export, Inc., as a foreign sales
     corporation.

(b)  BUSINESS OF THE COMPANY

     PRINCIPAL PRODUCTS AND SERVICES - HEI, Inc. is a designer and manufacturer
     of ultraminiature microelectronic devices and high technology products
     incorporating these devices. HEI's custom-built microelectronics are
     employed in the hearing, medical, telecommunications and industrial
     markets. The optical switch product line, which represented a minor part of
     the Company's sales, was sold in August 1997.

     DISTRIBUTION METHODS - HEI sells through its Company-employed sales force
     based at its facilities in Victoria, Minnesota and Tucson, Arizona.

     SOURCES AND AVAILABILITY OF RAW MATERIALS - There are many sources of raw
     material supplies available nationally and internationally for Company
     operations. The manufacture of Company products involves assembly of
     components purchased from a wide variety of vendors.

     DEPENDENCE ON SINGLE OR FEW CUSTOMERS - Following is the approximate
     percentage of the Company's sales to major customers which accounted for
     more than 10% of total sales in fiscal years 1999, 1998 and 1997.

<TABLE>
<CAPTION>
         Customer         1999             1998              1997
         --------         ----             ----              ----
<S>                       <C>              <C>               <C>
         Customer A       62%              59%               27%
         Customer B       16%              14%                 -
         Customer C         -                -               55%
</TABLE>

     COMPETITION - In each of its product lines, the Company has significant
     competition, including users who may produce their own alternative devices.
     The Company obtains new business by identifying customer needs and
     engineering its products to meet those needs. It competes on the basis of
     engineering expertise, quality, service and price to obtain new and repeat
     orders.


<PAGE>

     RESEARCH AND DEVELOPMENT - The estimated amount spent on Company-sponsored
     research and development activities was approximately $1,343,000 and
     $852,000 for the years ended August 31, 1999 and 1998, respectively.

     EMPLOYEES - At August 31, 1999, the Company employed approximately 140
     persons of whom three were part-time.

ITEM 2.  DESCRIPTION OF PROPERTY

The Company owns a 48,000 square foot facility for administration and
microelectronics production in Victoria, Minnesota, which was originally
completed in August 1981. The facility was expanded during fiscal 1996 from the
original 25,000 square feet with an addition of 23,000 square feet to increase
production capacity. In early January, 1999, the Company began leasing a 30,000
square foot facility and a 3,000 square foot facility in Empalme, Mexico and
Tucson, Arizona, respectively, for its contract assembly business. In July,
1999, the Company began leasing a 14,000 square foot facility in Tempe, Arizona
for its high density interconnect business which is expected to be operational
in the near future.

ITEM 3.  LEGAL PROCEEDINGS

As of November 24, 1999 there are no legal proceedings pending against the
Company or its properties.

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

None.


PART II

ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

The Company's common stock is currently traded on The Nasdaq National Market
under the symbol HEII. Below are the high and low closing bid prices for each
quarter of fiscal year 1999 and 1998, as reported by Nasdaq.

<TABLE>
<CAPTION>
1999                                          HIGH              LOW
<S>                                     <C>                  <C>
First Quarter                           $    5-5/8           $4-3/8
Second Quarter                               6-1/4                5
Third Quarter                                7-1/2            4-3/8
Fourth Quarter                             6-15/16           4-7/16
</TABLE>

<TABLE>
<CAPTION>
1998                                          HIGH              LOW
<S>                                     <C>                <C>
First Quarter                           $    5-3/4         $4-11/32
Second Quarter                               7-3/8            4-1/4
Third Quarter                                7-1/4            6-1/8
Fourth Quarter                             6-15/16            4-3/4
</TABLE>

As of August 31, 1999, the Company had approximately 2,300 shareholders of which
approximately 550 are shareholders of record. The Company has not declared cash
dividends.


<PAGE>

ITEM 6.  SELECTED FINANCIAL DATA

HEI, INC.
FIVE YEAR SUMMARY OF SELECTED FINANCIAL INFORMATION
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------
YEARS ENDED AUGUST 31                                      1999         1998          1997         1996            1995
------------------------------------------------------------------------------------------------------------------------
<S>                                                    <C>          <C>           <C>          <C>             <C>
Net sales                                               $24,323      $20,805       $30,962      $20,680         $23,423
Cost of sales                                            19,733       16,592        24,524       14,957          17,263
------------------------------------------------------------------------------------------------------------------------
Gross profit                                              4,590        4,213         6,438        5,723           6,160
------------------------------------------------------------------------------------------------------------------------
Operating expenses:
  Selling, general and administrative                     3,475        2,375         2,277        2,342           2,401
  Research, development and engineering                   1,343          852           843          849             754
Severance costs                                             490            -             -            -               -
Proxy/change of control costs                                 -        5,664             -            -               -
Gain on sale of product line, net                             -            -          (215)        (45)               -
------------------------------------------------------------------------------------------------------------------------
Operating income (loss)                                    (718)      (4,678)        3,533        2,577           3,005
------------------------------------------------------------------------------------------------------------------------

Income (loss) before income taxes                          (338)      (4,098)        3,980        2,833           3,250
------------------------------------------------------------------------------------------------------------------------
Income tax expense (benefit)                               (115)      (1,471)        1,430          720           1,210
------------------------------------------------------------------------------------------------------------------------
Net income (loss)                                      $   (223)    $ (2,627)      $ 2,550      $ 2,113         $ 2,040
------------------------------------------------------------------------------------------------------------------------
Net income (loss) per basic share                     $    (.05)  $     (.64)        $ .62        $ .54           $ .54
Net income (loss) per diluted share                   $    (.05)  $     (.64)        $ .60        $ .52           $ .52
------------------------------------------------------------------------------------------------------------------------
Weighted average common shares
  Outstanding:
  Basic                                                   4,098        4,085         4,135        3,942           3,748
  Diluted                                                 4,098        4,085         4,279        4,098           3,899
------------------------------------------------------------------------------------------------------------------------
Balance sheet:
  Working capital                                       $ 7,508      $11,864       $14,784      $10,088         $ 8,380
  Total assets                                           20,953       22,173        24,511       22,414          12,857
  Long-term debt, less current maturities                 3,218        3,835         4,537        5,271               -
  Shareholders' equity                                   14,156       14,341        16,995       13,816          10,982
------------------------------------------------------------------------------------------------------------------------
</TABLE>


<PAGE>

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS

FINANCIAL CONDITION

         The Company's net cash flow provided by operating activities for the
year ended August 31, 1999, was $2,576,000. The significant components of this
operating net cash flow were cash flow of $1,321,000 from operations before
changes in current operating items, a $1,067,000 decrease in income taxes
receivable, a $662,000 decrease in accounts receivable, and a $257,000 decrease
in other current assets partially offset by a $486,000 decrease in accounts
payable. The decrease in income tax receivable is the result of a tax refund.
The decrease in accounts receivable is attributable primarily to timing of
customer payments. The decrease in other current assets is mainly due to
repayments of deposits made on equipment that was converted to operating lease
agreements. The decrease in accounts payable is primarily due to payment of
proxy/change of control costs in September 1998.

         Accounts receivable average days outstanding was 34 days for the year
ended August 31, 1999 compared to 40 days for the same period a year ago.
Inventory turns were 9.5 turns and 12.0 turns for the years ended August 31,
1999 and 1998, respectively primarily due to customers requiring the Company to
carry more inventory than a year ago.

         The Company decreased short-term investments, primarily commercial
paper, to $3,744,000, down $4,240,000 from a year ago, primarily to fund startup
costs for Mexico, equipment purchases for Mexico and high density interconnect
business expansions and to pay remaining proxy/change of control costs and
severance costs. The current ratio at the end of fiscal 1999 was 3.3:1 as
compared to 4.2:1 at the end of fiscal 1998. The reduced current ratio is
principally due to decreased cash and cash equivalents and short-term
investments resulting from investments in newly established Mexico and High
Density Interconnect Divisions, decreased accounts receivable and the receipt of
a tax refund partially offset by decreased accounts payable.

         The Company has available a $5,000,000 revolving line of credit
which expires in April 2000 (see Note 5 under Notes to Consolidated Financial
Statements). As of August 31, 1999, there were no borrowings under the line.

         During fiscal 1999, the Company purchased $3,510,000 of property and
equipment primarily to increase manufacturing capacity to meet anticipated
requirements, including start up of assembly operations in Mexico and the
acquisition of equipment for the new high density interconnect operation in
Tempe, Arizona. These expenditures were funded primarily by internally generated
funds. The Company also entered into operating leases for an additional $728,000
of equipment over a three year period.

         During fiscal 2000, the Company intends to expend approximately $5.4
million for manufacturing facility improvements and capital equipment as well as
a new enterprise resource planning application software system to support its
internal operations. These additions will increase manufacturing capacity to
meet anticipated requirements including additional equipment for the Company's
new facilities in Mexico and Tempe, Arizona. It is expected that these
expenditures will be funded from operations and external financing.

RESULTS OF OPERATIONS

         SALES. 1999 VS. 1998: Sales in fiscal 1999 increased $3,518,000, or
17%, as compared to fiscal 1998. This increase was primarily in the hearing aid
and communications markets. The largest customer accounted for 62% of sales, up
21% over the prior fiscal year. The business with this customer has grown
steadily over the last five years, and currently the Company is producing over
20 different devices for this customer for shipment to multiple locations, both
domestic and international.

         1998 VS. 1997: Sales in fiscal 1998 decreased $10,157,000, or 33%, as
compared to fiscal 1997. This decrease reflects the phase out during the last
quarter of fiscal 1997 of high volume production of a device for use in
high-density disk drives. In the previous fiscal year, this


<PAGE>

disk drive program accounted for 55% of total sales. However, sales to the
Company's other market areas (hearing and medical instruments,
telecommunications and industrial applications) collectively increased 60% in
fiscal 1998 as compared to sales to such markets in fiscal 1997. In fiscal 1998,
one large multinational customer accounted for 59% of total sales.

<TABLE>
<CAPTION>
PERCENTAGE OF SALES
----------------------------------------------------------------------------------------
                                            1999                1998               1997
----------------------------------------------------------------------------------------
<S>                                         <C>                 <C>                <C>
Sales                                       100%                100%               100%
Gross profit                                 19%                 20%                21%
Selling, general and
  administrative                             14%                 11%                 7%
Research, development
  and engineering                             6%                  4%                 3%
Proxy/change of control costs                  -                 27%                  -
Severance costs                               2%                   -                  -
----------------------------------------------------------------------------------------
</TABLE>

GROSS PROFIT. 1999 VS. 1998: The Company's gross profit as a percentage of sales
was 19% in fiscal 1999, as compared to 20% in fiscal 1998. The reduction in
gross profit as a percentage of sales was primarily due to startup costs for
Mexico operations.

         1998 VS. 1997: The Company's gross profit as a percentage of sales was
20% in fiscal 1998, as compared to 21% in fiscal 1997. The reduction in gross
profit and gross profit as a percentage of sales was primarily due to the
decrease in sales and the impact of relatively fixed manufacturing support
costs.

OPERATING EXPENSES. 1999 VS. 1998: Fiscal 1999 selling, general and
administrative and research, development and engineering expenses increased
$1,591,000 or 49% over the previous fiscal year. This increase was due to higher
legal expense, increased selling expenses, start up costs related to Mexico and
high density interconnect operations (which are expensed as incurred) and
increased development costs to support future business opportunities. In
addition, during the first quarter of fiscal year 1999 the Company incurred
$490,000 of costs related to the severance agreement between the Company and
Eugene W. Courtney, former Chief Executive Officer. These costs are being paid
over a two year period.

         1998 VS. 1997: Fiscal 1998 selling, general and administrative and
research, development and engineering expenses increased $107,000, or 3%, over
the previous year. In addition to these costs, the Company incurred $5,664,000
of one-time expenses related the control contest in which Fant Industries, Inc.
gained control of the Company's Board of Directors. These one-time expenses of
$5,664,000 were entirely a cash outlay with the final amounts paid out in the
first quarter of fiscal 1999.

OTHER INCOME. 1999 VS. 1998: Other income decreased $200,000, or 34%, in fiscal
1999 as compared to fiscal 1998 primarily due to lower investment balances and
less cash received from previously reserved notes receivable.

         1998 VS. 1997: Other income increased $133,000, or 30%, in fiscal 1998
as compared to fiscal 1997 primarily due to cash received from previously
reserved notes receivable.

NET INCOME (LOSS). 1999 VS. 1998: The Company had a net loss of $223,000 in
fiscal 1999 compared to a net loss of $2,627,000 in fiscal 1998. The loss in
fiscal 1999 was primarily a result of a one-time severance cost of $490,000 and
increased costs and expenses associated with new business initiatives, including
the start up of the Company's new manufacturing facility in Mexico.

         1998 VS. 1997: The Company had a net loss of $2,627,000 in fiscal 1998
compared to net income of $2,550,000 in fiscal 1997. The loss in fiscal 1998 was
a result of decreased revenues and proxy/change of control costs of $5,664,000.
The fiscal 1998 loss also resulted in an income tax benefit of $1,471,000 and an
effective rate of 36%.


<PAGE>

ISSUES AND UNCERTAINTIES

This Annual Report contains forward-looking statements that are based on the
Company's current expectations and involve a number of risks and uncertainties.
Factors that may materially affect revenues, expenses and operating results
include, without limitation, adverse business or market conditions, the ability
of the Company to secure and satisfy customers, the availability and cost of
materials from suppliers, adverse competitive developments, and change in or
cancellation of customer requirements.

         The forward-looking statements included herein are based on current
assumptions that the Company will continue to develop, market, manufacture and
ship products on a timely basis, that competitive conditions within the
Company's markets will not change materially or adversely, that the Company will
continue to identify and satisfy customer needs for products and services, that
the Company will be able to retain and hire key personnel, that its equipment,
process, capabilities and resources will remain competitive and compatible with
the current state of technology, that risks due to shifts in customer demand
will be minimized, that the Company does not incur a significant financial
impact relating to year 2000 issues, and that there will be no material adverse
change in the Company's operations or business. Assumptions relating to the
foregoing involve judgments that are based on incomplete information and are
subject to many factors that can materially affect results. The Company operates
in a volatile segment of high technology markets and applications that are
subject to rapid change and technical obsolescence.

         Because of these and other factors affecting the Company's operating
results, past financial performance should not be considered an indicator of
future performance, and investors should not use historical trends to anticipate
results or trends in future periods. The following factors also may materially
affect results and therefore should be considered.

SUBSTANTIAL FLUCTUATIONS IN FUTURE OPERATING RESULTS: The Company has
experienced substantial fluctuations in its annual and quarterly operating
results, and such fluctuations may continue in future periods. The Company's
operating results are affected by a number of factors, many of which are beyond
the Company's control. All products manufactured by the Company are custom
designed and assembled for a specific customer's requirement in anticipation of
the receipt of volume production orders from that customer, which may not always
materialize to the degree anticipated, if at all. The Company typically incurs
significant start-up costs in the production of a particular product, which
costs are expensed as incurred and for which the Company attempts to seek
reimbursement from the customer. Accordingly, the Company's level of experience
in manufacturing a particular product and its efficiency in minimizing start-up
costs will affect the Company's operating results during the periods in which
production begins and ramp-up occurs. The efficiencies of the Company in
managing inventories and fixed assets, shortages of components or labor, the
degree of automation used in the assembly process, fluctuations in material
costs and the mix of materials, labor, manufacturing, and overhead costs are
also significant factors affecting annual and quarterly operating results. Other
factors contributing to fluctuations in the Company's operating results include
unforeseen design or manufacturing problems, price competition, functional
competition (other means of accomplishing the same or similar packaging end
result), the inability to pass on cost overruns, the timing of expenditures in
anticipation of increased sales, customer product delivery requirements, and the
range of services provided. In addition, the amount and timing of orders placed
by a customer may vary due to a number of factors, including inventory
balancing, changes in manufacturing strategy, and variation in product demand
attributable to, among other things, product life cycles, competitive factors,
and general economic conditions. Any one of these factors, or a combination
thereof, could adversely affect the Company's annual and quarterly results of
operations.

         The Company's customers generally require short delivery cycles, and a
substantial portion of the Company's backlog is typically scheduled for delivery
within 90 days. Quarterly sales and operating results therefore depend in large
part on the volume and timing of bookings received during or immediately prior
to the quarter, which are difficult to forecast in advance of that time. The
short lead-time for the Company's backlog also affects its ability to accurately


<PAGE>

project production and inventory levels. In addition, a significant portion of
the Company's operating expenses is relatively fixed in nature and planned
expenditures are based in part on anticipated orders. Any inability to adjust
spending quickly enough to compensate for any revenue shortfall may magnify the
adverse impact of such revenue shortfall on the Company's results of operations.

DEPENDENCE ON SINGLE INDUSTRY: During the past several years, the Company has
had significant dependence on a single market. In fiscal 1999, 71% of the
Company's revenues came from sales to hearing instrument manufacturers. In
addition, the Company has made significant sales in the medical products
industry. Each of these industries is characterized by intense competition,
relatively short product life cycles, rapid technological change, significant
fluctuations in product demand, and significant pressure on vendors to reduce or
minimize cost. Although the Company is attempting to reduce its dependence on
any single industry, the Company does not expect this historic dependence to
change dramatically or quickly. Accordingly, the Company will likely be affected
by trends in the industries it serves.

CUSTOMER CONCENTRATION: The Company's customer base is highly concentrated. In
fiscal 1999, 1998 and 1997, the Company's two largest customers accounted for
78%, 73% and 82%, respectively, of net sales. Although the Company is attempting
to reduce its dependence on a limited number of customers, the Company expects
that sales to a relatively small number of original equipment manufacturers
("OEMs") will continue to account for a substantial portion of net revenues for
the foreseeable future, and the loss of, or a decline in orders from, one of the
Company's key customers would have a material adverse effect on the Company's
financial and operating results.

COMPETITION: The Company operates in a highly competitive industry and competes
against several domestic and foreign providers of similar microelectronics
design and/or manufacturing services. The Company also faces competition from
the internal operations of its current and potential OEM customers and from
offshore contract manufacturers, which, because of their lower labor rates and
other related factors, enjoy a comparative advantage over the Company with
respect to high-volume production. However, the Company can now also offer
similar advantages through its new operation in Mexico. The Company expects to
continue to encounter competition from other electronics manufacturers that
currently provide or may begin to provide contract design and manufacturing
services. A number of the Company's competitors may have substantially greater
manufacturing, financial, technical, marketing, and other resources than does
the Company, and may offer a broader scope and presence of operations on a
worldwide basis.

         Significant competitive factors in the microelectronics market include
price, quality, design capabilites, responsiveness, testing capabilities, the
ability to manufacture in very high volumes and proximity to the customers final
assembly facilities. While the Company has competed favorably in the past with
respect to these factors, this is a particularly fast changing market, and there
can be no assurance that the Company will continue to do so in the future. The
trends toward increasingly shorter product cycles and to off-shore production
are expected to result in more intense competition as each new customer program
is generally open to bidding by the Company's competitors, increasingly
including those with off-shore facilities and capabilities. Further, the Company
is often one of two or more suppliers on any particular customer requirement and
is therefore subject to continuing competition on existing programs. In order to
remain competitive in any of its markets, the Company must continually provide
timely and technologically advanced design capabilities and manufacturing
services, ensure the quality of its products, and compete favorably with respect
to turnaround and price. If the Company were to fail to compete favorably with
respect to the principal competitive factors in its markets served, the
Company's business and operating results would be adversely affected.


<PAGE>

COMPONENT SUPPLY AND SOURCES: Substantially all of the Company's manufacturing
services are provided on a turnkey basis in which the Company, in addition to
providing design, assembly and testing services, is responsible for the
procurement of the components that are assembled by the Company for its
customers. Although the Company attempts to minimize margin erosion as a result
of component price increases, in certain circumstances it is required to bear
some or all of the risk of such price fluctuations, which could adversely affect
the Company's profits. To date, the Company has generally been able to negotiate
contracts that allow it to shift much of the impact of price fluctuations to the
customer; however, there can be no assurance that the Company will be able to do
so in all cases. In addition, in order to assure an adequate supply of certain
key components that have long procurement lead times, such as integrated
circuits, the Company occasionally must order such components prior to receiving
formal customer purchase orders for the assemblies that require such components.
Failure to accurately anticipate the volume or timing of customer orders can
result in component shortages or excess component inventory, which in either
case could adversely affect the Company's financial and operating results.

         Some of the assemblies manufactured by the Company require one or more
components that are ordered from, or which may be available from, only one
source or a limited number of sources. Delivery problems relating to components
purchased from any of the Company's key suppliers could have a material adverse
impact on the financial performance of the Company. From time to time, the
Company's suppliers allocate components among their customers in response to
supply shortages. In some cases, supply shortages will substantially curtail
production of all assemblies using a particular component. In addition, at
various times there have been industry-wide shortages of electronic components.
While the Company has not experienced sustained periods of shortages of
components in the recent past, there can be no assurance that substantial
component shortages will not occur in the future. Any such shortages could have
a material adverse effect on the Company's operating results.

VARIABILITY OF CUSTOMER REQUIREMENTS AND CUSTOMER FINANCING: The level and
timing of orders placed by customers vary due to the customers' attempts to
balance their inventory, changes in customers' manufacturing strategies, and
variations in demand for the customers' products. Due in part to these factors,
most of the Company's customers do not commit to firm production schedules for
more than several weeks in advance of requirements. The Company's inability to
forecast the level of customers' orders with certainty makes it difficult to
schedule production and optimize utilization of manufacturing capacity. In the
past, the Company has been required to increase staffing and incur other
expenses in order to meet the anticipated demands of its customers. From time to
time, anticipated orders from some of the Company's customers have failed to
materialize and delivery schedules have been deferred as a result of changes in
a customer's business needs, both of which have adversely affected the Company's
operating results. On other occasions, customers have required rapid increases
in production that have placed an excessive burden on the Company's resources.
There can be no assurance that the Company will not experience similar
fluctuations in customer demand in the future. In addition, the Company may
carry significant accounts receivable in connection with providing manufacturing
services to its customers. Although the Company has not encountered significant
problems in collecting on such accounts receivable on a timely basis, if one or
more of the Company's principal customers were to become insolvent, or otherwise
fail to pay for the services and materials provided by the Company, the
Company's operating results and financial condition would be adversely affected.

RAPID TECHNOLOGICAL CHANGE: The Company's customers compete in markets that are
characterized by rapid technological change and short product life cycles. In
particular, the hearing, medical and telecommunications markets are prone to
rapid product obsolescence by new technologies. The microelectronics industry
could experience future competition from new or emerging technologies that
render existing technology less competitive or obsolete. The inability of the
Company to develop technologies or acquire capability to meet the evolving
market


<PAGE>

requirements of its customers could have a material adverse effect on the
Company's business, financial condition and results of operations, including the
Company's ability to maintain its revenue base.

MANAGEMENT OF GROWTH: The Company's sales have varied significantly as customer
demand for the Company's products increases and decreases. The Company's future
operating results will depend on management's ability to manage periods of both
growth and downturn, to be able to hire, train and retain the appropriate number
of qualified employees, and to forecast revenues and control expenses.
Unexpected declines in revenues, without corresponding and timely reductions in
expenses, could have a material adverse effect on the Company's business,
results of operations, or financial condition.

HIRING AND RETENTION OF EMPLOYEES: The Company's continued growth and success
depend to a significant extent on the continued service of senior management and
other key employees and the hiring of new qualified employees. Competition for
skilled business, product development, technical and other personnel is intense.
There can be no assurance that the Company will be successful in recruiting new
personnel and retaining existing personnel. Except for two officers, none of the
Company's employees are subject to a long-term employment agreement, although
several key employees are subject to non-competition agreements. The loss of one
or more key employees could have a material adverse effect on the growth of the
Company.

POSSIBLE VOLATILITY OF STOCK PRICE: The market price of the Company's Common
Stock has experienced significant fluctuations and may continue to fluctuate in
the future. The market price of the Common Stock may be significantly affected
by factors such as changes in requirements or demands for the Company's
services, the announcement of new products or product enhancements by the
Company or its competitors, technological innovations by the Company or its
competitors, quarterly variations in the Company's or its competitors' results
of operations, changes in prices of the Company's or its competitors' products
and services, changes in revenue and revenue growth rates of the Company,
changes in earnings estimates by market analysts, speculation in the press or
analyst community, and general market conditions or market conditions specific
to particular industries. The stock prices for many companies in the technology
sector have experienced wide fluctuations that often have been unrelated to
their operating performance. Such fluctuations may adversely affect the market
price of the Company's Common Stock.

MARKET RISK: The Company has a limited market risk in terms of the variability
of the interest rate on its Industrial Development Revenue Bonds. The bonds bear
interest at a rate which varies weekly, based on comparative tax exempt issues,
and is limited to a maximum of 10%.

IMPACT OF YEAR 2000: The Company has considered the impact of Year 2000 on the
computer systems and applications and developed a remediation plan. Year 2000
readiness testing on the Company's computer systems and applications and
automated manufacturing equipment was completed and tested successfully by
August, 1999. Expenditures for the Year 2000 project amounted to approximately
$140,000. The Company is also assessing the Year 2000 readiness of key material
and service providers.

         The Company believes that, with the modifications made and the
successful testing completed on existing systems, the Year 2000 issue will not
pose significant operational problems. However, there can be no assurance that
all Year 2000 issues will be identified and resolved in a timely manner,
particularly those issues involving key material and service providers' and
other business affiliates' computer systems outside of the Company's control. If
the Company's remediation plan is not successful, or if these outside systems
should fail, there could be a significant disruption of the Company's ability to
transact business with its customers and suppliers.


<PAGE>

ITEM 8.  FINANCIAL STATEMENTS

HEI, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------
AS OF AUGUST 31                                                                    1999             1998
---------------------------------------------------------------------------------------------------------------------
<S>                                                                             <C>              <C>
ASSETS
Current assets:
   Cash and cash equivalents                                                    $ 1,217            $ 297
   Short-term investments                                                         3,744            7,984
   Restricted cash                                                                  295                -
---------------------------------------------------------------------------------------------------------------------
                                                                                  5,256            8,281
   Accounts receivable, net                                                       2,862            3,434
   Inventories                                                                    1,861            1,538
   Income taxes receivable                                                          109            1,176
   Other current assets                                                             753            1,176
---------------------------------------------------------------------------------------------------------------------
Total current assets                                                             10,841           15,605
---------------------------------------------------------------------------------------------------------------------
Property and equipment:
   Land                                                                             216              216
   Building and improvements                                                      3,953            3,897
   Fixtures and equipment                                                        12,409            9,018
   Accumulated depreciation                                                      (8,238)          (6,859)
---------------------------------------------------------------------------------------------------------------------
Net property and equipment                                                        8,340            6,272
---------------------------------------------------------------------------------------------------------------------
Restricted cash                                                                      83                -
Long-term investments                                                             1,468              186
Other long-term assets                                                              221              110
---------------------------------------------------------------------------------------------------------------------
Total assets                                                                   $ 20,953         $ 22,173
---------------------------------------------------------------------------------------------------------------------

LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
   Current maturities of long-term debt                                           $ 700            $ 700
   Accounts payable                                                               1,348            1,834
   Accrued employee related costs                                                   906              612
   Accrued liabilities                                                              379              595
---------------------------------------------------------------------------------------------------------------------
Total current liabilities                                                         3,333            3,741
---------------------------------------------------------------------------------------------------------------------
Long-term debt, less current maturities                                           3,218            3,835
Deferred tax liability                                                              246              256
---------------------------------------------------------------------------------------------------------------------
Shareholders' equity:
   Undesignated stock; 5,000,000 shares authorized,
      none issued
   Common stock, $.05 par; 10,000,000 shares authorized; 4,101,965 and 4,095,195
      shares issued and outstanding,
      respectively                                                                  205              205
   Additional paid-in capital                                                     7,529            7,491
   Retained earnings                                                              6,422            6,645
---------------------------------------------------------------------------------------------------------------------
Total shareholders' equity                                                       14,156           14,341
---------------------------------------------------------------------------------------------------------------------
Commitments and contingencies (Note 10)
Total liabilities and shareholders' equity                                     $ 20,953         $ 22,173
---------------------------------------------------------------------------------------------------------------------
</TABLE>


THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL
STATEMENTS.


<PAGE>

HEI, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------
YEARS ENDED AUGUST 31                                                 1999              1998             1997
----------------------------------------------------------------------------------------------------------------------------
<S>                                                                 <C>              <C>               <C>
Net sales                                                           $ 24,323         $ 20,805          $ 30,962
Cost of sales                                                         19,733           16,592            24,524
----------------------------------------------------------------------------------------------------------------------------
Gross profit                                                           4,590            4,213             6,438
----------------------------------------------------------------------------------------------------------------------------
Operating expenses:
   Selling, general and administrative                                 3,475            2,375             2,277
   Research, development and engineering                               1,343              852               843
Proxy/change of control costs                                              -            5,664                 -
Severance costs                                                          490                -                 -
Gain on sale of product line, net                                          -                -              (215)
----------------------------------------------------------------------------------------------------------------------------
Operating income (loss)                                                 (718)          (4,678)            3,533
----------------------------------------------------------------------------------------------------------------------------
Other income, net                                                        380              580               447
----------------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes                                       (338)          (4,098)            3,980
----------------------------------------------------------------------------------------------------------------------------
Income tax expense (benefit)                                            (115)          (1,471)            1,430
----------------------------------------------------------------------------------------------------------------------------
Net income (loss)                                                     $ (223)        $ (2,627)          $ 2,550
----------------------------------------------------------------------------------------------------------------------------
Net income (loss) per common share
  Basic                                                              $ (0.05)         $ (0.64)           $ 0.62
  Diluted                                                            $ (0.05)         $ (0.64)           $ 0.60
----------------------------------------------------------------------------------------------------------------------------
Weighted average common shares outstanding
  Basic                                                                4,098            4,085             4,135
  Diluted                                                              4,098            4,085             4,279
----------------------------------------------------------------------------------------------------------------------------
</TABLE>


THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL
STATEMENTS.


<PAGE>

HEI, INC.
STATEMENTS OF CHANGES IN
CONSOLIDATED SHAREHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)

<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------
                                                     COMMON STOCK     COMMON STOCK     ADDITIONAL
                                                           SHARES           AMOUNT        PAID-IN    RETAINED
                                                      OUTSTANDING      OUTSTANDING        CAPITAL    EARNINGS
--------------------------------------------------------------------------------------------------------------
<S>                                                  <C>              <C>              <C>           <C>
BALANCE, AUGUST 31, 1996                                4,030,427            $ 202         $6,892      $6,722
  Net income                                                    -                -              -       2,550
  Issuance of common shares
    under employee stock purchase
    and option plans                                      177,049                8            799           -
  Common shares repurchased and retired                  (104,300)              (5)          (595)          -
  Tax benefit of nonqualified stock options                     -                -            422           -
--------------------------------------------------------------------------------------------------------------
BALANCE, AUGUST 31, 1997                                4,103,176              205          7,518       9,272
  Net loss                                                      -                -              -      (2,627)
  Issuance of common shares
    under employee stock purchase
    and option plans                                       26,619                1            159           -
  Common shares repurchased and retired                   (34,600)              (1)          (186)          -
--------------------------------------------------------------------------------------------------------------
BALANCE, AUGUST 31, 1998                                4,095,195              205          7,491       6,645
  Net loss                                                      -                -              -        (223)
  Issuance of common shares
    under employee stock purchase plan                      6,770                -             38           -
--------------------------------------------------------------------------------------------------------------
BALANCE, AUGUST 31, 1999                                4,101,965            $ 205         $7,529      $6,422
--------------------------------------------------------------------------------------------------------------
</TABLE>

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL
STATEMENTS.


<PAGE>

HEI, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------------------
YEARS ENDED AUGUST 31                                                   1999            1998            1997
-------------------------------------------------------------------------------------------------------------
<S>                                                                   <C>           <C>             <C>
Cash flow provided by (used in) operating activities:
   Net income (loss)                                                   ($223)        ($2,627)         $2,550
   Equity in loss from MSC investment                                     32               -               -
   Depreciation                                                        1,438           1,358           1,376
   Amortization                                                           59              60              70
   Accounts receivable allowance                                         (90)            (53)             13
   Deferred income tax expense (benefit)                                 101            (242)              8
   Gain on sale of product line, net                                       -               -            (215)
   Other                                                                   4               1              35
Changes in current operating items:
   Accounts receivable                                                   662          (1,056)          1,701
   Inventories                                                          (323)             37             (14)
   Other current assets                                                  257            (512)           (133)
   Accounts payable                                                     (486)          1,106             255
   Accrued employee related costs and accrued liabilities                 78             (26)           (121)
   Income taxes                                                        1,067          (1,089)           (656)
-------------------------------------------------------------------------------------------------------------
Net cash flow provided by (used in) operating activities               2,576          (3,043)          4,869
-------------------------------------------------------------------------------------------------------------
Cash flow provided by (used in) investing activities:
   Purchases of investments                                           (9,536)        (15,165)        (10,892)
   Maturities of investments                                          13,962          16,170           7,205
   Additions to property and equipment                                (3,510)         (1,025)         (1,605)
   Investment in MSC                                                  (1,500)              -               -
   Licensing agreement                                                  (129)              -               -
   Proceeds from sales of product lines                                   55             237             494
   (Increase) decrease in restricted cash                               (378)            389           2,066
-------------------------------------------------------------------------------------------------------------
Net cash flow provided by (used in) investing activities              (1,036)            606          (2,732)
-------------------------------------------------------------------------------------------------------------
Cash flow provided by (used in) financing activities:
   Repayment of long-term debt, net                                     (617)           (650)           (440)
   Increase in deferred financing fees                                   (41)            (47)            (54)
   Issuance of common stock and other                                     38             159             807
   Tax benefit of nonqualified stock options                               -               -             422
   Repurchase of common shares                                             -            (186)           (600)
-------------------------------------------------------------------------------------------------------------
Net cash flow provided by (used in) financing activities                (620)           (724)            135
-------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents                     920          (3,161)          2,272
Cash and cash equivalents, beginning of period                           297           3,458           1,186
-------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period                              $1,217            $297          $3,458
-------------------------------------------------------------------------------------------------------------

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
-------------------------------------------------------------------------------------------------------------
Interest paid                                                           $155            $201            $218
Income taxes paid                                                         50             100           1,656
-------------------------------------------------------------------------------------------------------------
</TABLE>

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL
STATEMENTS.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


<PAGE>

NOTE 1
--------------------------------------------------------------------------------
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
HEI, Inc. and its subsidiary (the Company) specializes in the design and
manufacture of ultraminiature microelectronic devices and high technology
products incorporating those devices.

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

CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS. The Company considers its
investments in all highly liquid debt instruments with original maturities of
three months or less at date of purchase to be cash equivalents. The carrying
amount approximates fair value because of the short maturity of those
instruments. Short-term investments consist mainly of high quality commercial
paper with maturities of less than one year. The short-term investments are
carried at amortized cost which approximates fair value and are classified as
held to maturity.

INVENTORIES. Inventories are stated at the lower of cost or market and include
materials, labor and overhead costs. The first-in, first-out cost method is used
to value inventories.

PROPERTY AND EQUIPMENT. Property and equipment are stated at cost. Depreciation
and amortization are provided on the straight-line method over the estimated
useful lives of the property and equipment. The approximate useful lives of
building and improvements are 10-39 years and fixtures and equipment are 3-10
years.

         Maintenance and repairs are charged to expense as incurred. Major
improvements and tooling costs are capitalized and depreciated over their
estimated useful lives. The cost and accumulated depreciation of property and
equipment retired or otherwise disposed of are removed from the related
accounts, and any resulting gain or loss charged or credited to operations.

LONG-LIVED ASSETS. Long-lived assets and certain identifiable intangibles are
evaluated for impairment whenever events or changes in circumstances indicate
that the carrying value of an asset may not be recoverable. As of August 31,
1999, the Company did not consider any of its assets to be impaired.

INCOME TAXES. Deferred income tax assets and liabilities are recognized for the
expected future tax consequences of events that have been included in the
financial statements or tax returns. Deferred income tax assets and liabilities
are determined based on the differences between the financial statement and tax
bases of assets and liabilities using currently enacted tax rates in effect for
the year in which the differences are expected to reverse. Valuation allowances
are established when necessary to reduce deferred tax assets to the amount
expected to be realized. Income tax expense (benefit) is the tax payable
(receivable) for the periods and the change during the period in deferred income
tax assets and liabilities.

ACCOUNTING FOR STOCK-BASED COMPENSATION. The Company has adopted the
disclosure provisions of Statement of Financial Accounting Standards No. 123
(SFAS No. 123) "Accounting for Stock-based Compensation". The Company
measures compensation cost, if any, for its stock option plans using the
intrinsic value based method of accounting it has historically used and,
therefore, the new standard has no effect on the Company's operating results.

REVENUE RECOGNITION. Revenue is recognized at the time of shipment.


<PAGE>

NET INCOME (LOSS) PER WEIGHTED AVERAGE COMMON SHARE. The Company adopted SFAS
No. 128, "Earnings per Share" (EPS) effective with its second quarter of fiscal
1998. The standard requires dual presentation of basic and diluted EPS on the
face of the statement of operations.

         Basic earnings per share is computed by dividing net income (loss) by
the weighted average number of common shares outstanding. Diluted earnings per
share is computed by dividing net income (loss) by the weighted average number
of common shares outstanding assuming the exercise of dilutive stock options.
The dilutive effect of the stock options is computed using the average market
price of the Company's stock during each period under the treasury stock method.

NEW ACCOUNTING PRONOUNCEMENTS. During 1998, the Financial Accounting Standards
Board (FASB) issued SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities", and the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants (AICPA) issued Statement of
Position (SOP) 98-1, "Accounting for the Costs of Computer Software Developed of
Obtained for Internal Use".

         SFAS No. 133 establishes new standards for recognizing all derivatives
as either assets or liabilities and measuring those instruments at fair value.
The Company plans to adopt the new standard during fiscal year 2000, as
required. The Company is in the process of evaluating SFAS No. 133 and the
impact on the Company, but does not believe the impact will be material. SOP
98-1 provides guidance on accounting for the costs of computer software
developed or obtained for internal use. The Company adopted the provisions of
this SOP during fiscal year 1999, which did not have a material impact on
results of operations of the Company.

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

NOTE 2
--------------------------------------------------------------------------------
PROXY/CHANGE OF CONTROL COSTS

In fiscal year 1998, the Company incurred $5,664,000 of one-time expenses
related to proxy contest and change of control costs which resulted from the
efforts of Fant Industries Inc. in the second half of the year to gain control
of the Board of Directors. These expenses included preparation of proxy
materials and other information to shareholders and litigation expenses related
to the takeover activity, cash-out payments made to all stock option holders
which were required as a result of the change of control and reimbursement to
Fant Industries Inc. for its expenses as agreed to by the shareholders. These
one-time expenses of $5,664,000 were entirely a cash outlay with the final
amounts paid out in the first quarter of fiscal 1999.

NOTE 3
--------------------------------------------------------------------------------
MAJOR CUSTOMERS, CONCENTRATION OF CREDIT RISK AND GEOGRAPHIC DATA

Major customers, each of which accounted for more than 10% of the Company's net
sales for the years ended August 31, were as follows:

<TABLE>
<CAPTION>
--------------------------------------------------------------------------------
                                      1999               1998              1997
--------------------------------------------------------------------------------
<S>                                   <C>                <C>               <C>
Customer A                             62%                59%               27%
Customer B                             16%                14%                 -
Customer C                               -                  -               55%
--------------------------------------------------------------------------------
</TABLE>

<PAGE>

         The Company generally sells its products to original equipment
manufacturers in the United States and abroad in accordance with supply
contracts specific to certain manufacturer product programs. The Company
performs ongoing credit evaluations of its customers' financial conditions and,
generally, does not require collateral from its customers. The Company's
continued sales to these customers are often dependent upon the continuance of
the customers' product programs. Customer C's product program was completed
during the fourth quarter of fiscal 1997. The Company's ten largest customers
accounted for approximately 98% of net sales in fiscal 1999, 96% in fiscal 1998
and 95% in fiscal 1997 and approximately 94% and 96% of accounts receivable at
August 31, 1999 and 1998, respectively.

         The Company had net sales of $14,190,000, $10,407,000 and $6,647,000
that were shipped to Singapore in fiscal 1999, 1998 and 1997, respectively, and
$14,970,000 that were shipped to Thailand in fiscal 1997. Net export sales were
$15,512,000, $11,819,000 and $22,604,000 in fiscal 1999, 1998 and 1997,
respectively. The majority of the international sales were to multinational
companies who instructed HEI to ship products to their own off-shore assembly
facilities.

NOTE 4
--------------------------------------------------------------------------------
OTHER FINANCIAL STATEMENT DATA

The following provides additional information concerning selected consolidated
balance sheet accounts at August 31, 1999 and 1998:

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------
(IN THOUSANDS)                                                1999                    1998
---------------------------------------------------------------------------------------------
<S>                                                        <C>                     <C>
Accounts receivable, net:
  Trade accounts receivable                                 $3,002                  $3,664
  Less allowance for doubtful accounts                        (140)                   (230)
---------------------------------------------------------------------------------------------
                                                            $2,862                  $3,434
---------------------------------------------------------------------------------------------
Inventories:
  Purchased parts                                          $   989                 $   781
  Work in process                                              755                     681
  Finished goods                                               117                      76
---------------------------------------------------------------------------------------------
                                                            $1,861                  $1,538
---------------------------------------------------------------------------------------------
Other current assets:
  Deferred tax assets                                      $   577                 $   688
  Deposits on operating leases                                   -                     456
  Receivable on sale of product line, net                        5                      12
  Other current assets                                         171                      20
---------------------------------------------------------------------------------------------
                                                           $   753                  $1,176
---------------------------------------------------------------------------------------------
Accrued liabilities:
  Real estate taxes                                       $     82                 $    90
  Other                                                        297                     505
---------------------------------------------------------------------------------------------
                                                           $   379                 $   595
---------------------------------------------------------------------------------------------
</TABLE>

SALE OF PRODUCT LINES. In August 1997, the Company sold its optoelectronic
switch assembly product line. Through this transaction, the buyers acquired
certain assets including manufacturing equipment and related inventory, product
licenses and assumed all warranties. In connection with this sale, the Company
received cash payments for the assets and an agreement for additional amounts to
be paid monthly over the subsequent two years. The Company anticipates no
substantial effect of the sale of these product lines on future operating
results.


<PAGE>

NOTE 5
--------------------------------------------------------------------------------
FINANCING ARRANGEMENTS

In April 1996, the Company received proceeds of $5,625,000 from the issuance of
Industrial Development Revenue Bonds. Of these funds, approximately $1,500,000
was used for the construction of the new addition to the Company's manufacturing
facility, and the remainder was used for equipment purchases. The bonds related
to the facility expansion require annual principal payments of $90,000 in the
first year and $95,000 on April 1 of each year thereafter through 2011. The
bonds related to the purchased equipment require payments over seven years from
the date of purchase of the equipment through April 1, 2005. In April 1999 and
1998 the Company repaid $700,000 and $650,000, respectively, of the construction
and equipment bonds. The bonds bear interest at a rate which varies weekly,
based on comparable tax exempt issues, and is limited to a maximum rate of 10%.
The interest rate at August 31, 1999 was 3.70%. The bonds are collateralized by
two irrevocable letters of credit and essentially all property and equipment. A
commitment fee is paid annually to the bank at a rate of 1% of the letters of
credit. The letter of credit reimbursement agreement contains certain
restrictive covenants including limitations on other borrowings and maintenance
of specified financial levels and ratios for net income, tangible net worth,
debt to tangible net worth, cash flow and indebtedness. Primarily due to the
severance agreement with Mr. Eugene Courtney during fiscal year 1999, the
Company was in default of certain of these covenants at August 31, 1999. The
Company received waivers dated October 22, 1999 for its covenant defaults.

         The Company has available a $5,000,000 revolving line of credit which
expires in April 2000. At August 31, 1999 and 1998, there were no borrowings
under the line of credit. Any borrowings under this agreement would be
collateralized by accounts receivable. The agreement contains certain
restrictive covenants including limitations on other borrowings and maintenance
of specified financial levels and ratios for net income, tangible net worth and
debt to tangible net worth and cash flow. Primarily due to the severance
agreement with Mr. Eugene Courtney during fiscal year 1999, the Company was in
default of certain of these covenants at August 31, 1999. The Company received
waivers dated October 22, 1999 for its covenant defaults. Borrowings are limited
to the lesser of $5,000,000 or the borrowing base, which is 80% of eligible
accounts receivable. Interest on the borrowings is based, at the Company's
option, on the lender's prime rate of interest or 1.5% to 2% above the lender's
LIBOR rate.

         Principal maturities of long-term debt at August 31, 1999 are as
follows (in thousands):

<TABLE>
<CAPTION>
                     Years ending August 31,
<S>                                                                 <C>
                     2000                                             $700
                     2001                                              783
                     2002                                              700
                     2003                                              700
                     2004                                              350
                     Thereafter                                        685
                  ---------------------------------------------------------
                                                                    $3,918
                  ---------------------------------------------------------
</TABLE>

NOTE 6
--------------------------------------------------------------------------------
INVESTMENT IN MICRO SUBSTRATES CORPORATION

On June 24, 1999, the Company obtained an exclusive, worldwide license from
Micro Substrates Corporation (MSC) to manufacture and market a new
high-frequency chip carrier for applications in Local Multipoint Distribution
Services, ultra high-speed Internet routing and satellite communications. In a
related transaction, the Company made an initial cash equity investment of $1.5
million in MSC (28%) and will supply goods and services, such as thin film
substrate processing, to MSC. The Company's investment in MSC is being accounted
for under the equity


<PAGE>

method. For the year ended August 31, 1999, the Company's equity in net losses
of MSC were $32,000 and are included in other income, net.

NOTE 7
--------------------------------------------------------------------------------
INCOME TAXES

Income tax expense (benefit) for the years ended August 31 consisted of the
following:

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------
(IN THOUSANDS)                                    1999              1998              1997
---------------------------------------------------------------------------------------------
<S>                                              <C>             <C>                <C>
Current:
  Federal                                        $(221)          $(1,234)           $1,279
  State                                              5                 5               143
Deferred                                           101              (242)                8
---------------------------------------------------------------------------------------------
Income tax expense (benefit)                     $(115)          $(1,471)           $1,430
---------------------------------------------------------------------------------------------
</TABLE>

         The components of the deferred tax assets and liabilities at August 31,
1999 and 1998 are as follows:

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------
(IN THOUSANDS)                                                1999                    1998
---------------------------------------------------------------------------------------------
<S>                                                          <C>                     <C>
Deferred tax assets:
  Receivables                                                $  52                   $ 105
  Inventories                                                  201                     324
  Accrued liabilities                                          151                     151
  Net operating loss carry-forward                             232                     108
---------------------------------------------------------------------------------------------
                                                              $636                   $ 688
---------------------------------------------------------------------------------------------
Deferred tax liabilities:
  Property and equipment                                     $(305)                  $(238)
  Deferred gain on sales of product lines                        -                     (18)
---------------------------------------------------------------------------------------------
                                                             $(305)                  $(256)
---------------------------------------------------------------------------------------------
</TABLE>

         A reconciliation of the statutory federal income tax rate for the years
ended August 31 is as follows:
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------
                                             1999                1998                1997
--------------------------------------------------------------------------------------------
<S>                                          <C>                <C>                   <C>
Federal statutory tax rate                   (34.0)%            (34.0)%               34.0%
State income tax rate
  (net of federal tax effect)                 (3.0)              (3.0)                 2.4
Other                                          3.0                1.1                  (.5)
--------------------------------------------------------------------------------------------
Effective tax rate                           (34.0)%            (35.9)%               35.9%
--------------------------------------------------------------------------------------------
</TABLE>

NOTE 8
-------------------------------------------------------------------------------
STOCK BENEFIT PLANS

1998 PLAN. Under the Company's 1998 Stock Option Plan (the "1998 Plan"), a
maximum of 400,000 shares of common stock may be issued pursuant to qualified
and nonqualified stock options.

         Stock options granted become exercisable in varying increments with a
portion tied to the closing stock price or up to a maximum of eight years,
whichever comes first. The exercise price for options granted is equal to the
average closing market price of the common stock on the date of the grant.

         At August 31, 1999, the number of shares available for grant were
63,700.


<PAGE>

1989 PLAN. Under the Company's 1989 Omnibus Stock Compensation Plan (the "1989
Plan"), a maximum of 2,000,000 shares of common stock may be issued pursuant to
qualified and nonqualified stock options, stock purchase rights and other
stock-based awards.

         Stock options granted become exercisable in varying increments.
Generally, the exercise price for options granted is equal to the average
closing market price of the common stock for the five days preceding the date of
grant. There are no outstanding options under the 1989 Plan.

         Under the 1989 Plan, substantially all regular full-time employees are
given the opportunity to designate up to 10% of their annual compensation to be
withheld, through payroll deductions, for the purchase of common stock at 85% of
the lower of (i) the market price at the beginning of the plan year, or (ii) the
market price at the end of the plan year. During fiscal 1999, 1998 and 1997,
6,770, 11,619 and 12,049 shares at prices of $4.68, $5.79 and $5.08,
respectively, were purchased under the 1989 Plan.

         At August 31, 1999, 1998 and 1997, the number of shares available for
grant were 291,292, 298,062 and 19,681, respectively.

DIRECTORS' PLAN. During fiscal year 1999, the shareholders approved the 1998
Stock Option Plan for Non-employee Directors. This plan replaced and superceded
the Company's prior Stock Option Plan for Non-employee Directors. Under the new
directors' plan, 425,000 shares are authorized for issuance, with an initial
year grant of 55,000 shares and an annual grant thereafter of 10,000 shares to
each non-employee director. These grants are effective on the day of the annual
shareholders' meeting upon adjournment at an exercise price equal to the market
price on the date of grant. The options become exercisable at the earlier of
seven years after the grant date or on the first day the market value equals or
exceeds $25.00. These options expire ten years after the grant date. Options to
purchase 275,000 shares were granted in fiscal year 1999 to the five
non-employee directors at $5.50 per share. At August 31, 1999, 275,000 shares
remain outstanding and 150,000 shares are available for grant.

         Under the previous directors' plan, 400,000 shares were authorized for
issuance, with an annual grant of 10,000 shares to each non-employee director.
These grants were effective on the first business day following the annual
shareholders' meeting at an exercise price equal to the average closing market
price of the common stock for the five days preceding the date of grant. The
options became exercisable one year after the grant date and expired ten years
after the grant date. Options to purchase 40,000 shares were granted to the four
non-employee directors at $11.325 per share in 1997. Options to purchase 30,000
shares were granted to the three non-employee directors at $4.925 in 1998. At
August 31, 1998, no options for shares remained outstanding and 130,000 shares
were available for grant. This plan was replaced and superceded during fiscal
year 1999.

CHANGE OF CONTROL. Under the terms and conditions of the Company's 1989 Plan
and the Directors' Plan, a change of control in the Company's Board of
Directors, under certain circumstances, requires a liquidation of all
unexercised stock options. In fiscal 1998, all stock options were liquidated
under this provision. The required payments relating to stock options
outstanding due to the change of control liquidation made in fiscal 1998 were
approximately $3,700,000 which are included in proxy/change of control costs
in the statement of operations.

SUMMARY OF ACTIVITY.  The following is a summary of all activity involving
options:

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------
                                                          WEIGHTED AVERAGE
                                               OPTIONS    EXERCISE PRICE
                                           OUTSTANDING        PER SHARE
-------------------------------------------------------------------------------
<S>                                        <C>            <C>
BALANCE, AUGUST 31, 1996                       589,500               $4.980
Granted                                         40,000               11.325
Exercised                                     (165,000)               4.527
Cancelled                                      (17,500)               4.713
-------------------------------------------------------------------------------
BALANCE, AUGUST 31, 1997                       447,000                5.680
-------------------------------------------------------------------------------


<PAGE>

Granted                                        575,000                5.160
Exercised                                      (15,000)               5.308
Change of control liquidation                 (972,000)               5.397
Cancelled                                      (35,000)               5.305
-------------------------------------------------------------------------------
BALANCE, AUGUST 31, 1998                             0                0.000
-------------------------------------------------------------------------------
Granted                                        629,300                5.610
Cancelled                                      (18,000)               5.875
-------------------------------------------------------------------------------
BALANCE, AUGUST 31, 1999                       611,300               $5.602
-------------------------------------------------------------------------------
</TABLE>

ACCOUNTING FOR STOCK-BASED COMPENSATION. Had the Company used the
fair-value-based method of accounting for its stock option plans beginning in
fiscal year 1996 and charged compensation cost against income over the vesting
period, net income (loss) for fiscal years 1999, 1998 and 1997 would have been
changed to the following pro forma amounts:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------
                                                     1999                 1998                 1997
-----------------------------------------------------------------------------------------------------------
<S>                                               <C>                 <C>                   <C>
Net income (loss)                                 $(477,000)          $(2,636,000)          $2,384,000

Net income (loss) per share, diluted                 $ (.12)               $ (.65)              $ .56
-----------------------------------------------------------------------------------------------------------
</TABLE>

         The weighted average grant-date fair value of options granted during
1999, 1998 and 1997 was $3.30, $1.22 and $5.59, respectively. The weighted
average grant-date fair value of options was determined separately for each
grant under the Company's various plans by using the fair value of each option
grant on the date of grant, utilizing the Black-Scholes option-pricing model and
the following key weighted average assumptions:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------
                                            1999                1998                 1997
-----------------------------------------------------------------------------------------------
<S>                                    <C>                 <C>                  <C>
Risk-free interest rates               6.00% TO 6.00%      5.00% to 5.50%       6.00% to 6.35%
Expected life                          .5 TO 8 YEARS        .5 to 3 years       .5 to 5 years
Expected volatility                         61%                  62%                 62%
Expected dividends                          NONE                None                 None
-----------------------------------------------------------------------------------------------
</TABLE>

NOTE 9
-------------------------------------------------------------------------------
EMPLOYEE BENEFIT PLANS

The Company has a 401(k) plan covering all eligible employees. Employees can
make voluntary contributions to the plan of up to 20% of their compensation not
to exceed the maximum specified by the Internal Revenue Code. The plan also
provides for a discretionary contribution by the Company. During fiscal years
1999, 1998 and 1997, the Company contributed $87,000, $93,000 and $100,000,
respectively, to the plan.

NOTE 10
-------------------------------------------------------------------------------
COMMITMENTS

Future commitments under non-cancelable operating leases, primarily for
manufacturing equipment, are approximately $498,000 in 2000, $372,000 in 2001,
$132,000 in 2002, $89,000 in 2003, $89,000 in 2004 and $82,000 thereafter. Total
expense under non-cancelable operating leases was approximately $386,000 in
1999, $153,000 in 1998 and $66,000 in 1997.


<PAGE>

NOTE 11
-------------------------------------------------------------------------------
SEVERANCE COSTS

In fiscal year 1999, the Company incurred $490,000 of severance costs related
to the severance agreement between the Company and Eugene W. Courtney, former
Chief Executive Officer. These costs are being paid over a two year period.
Restricted cash on the balance sheet represents an investment pledged as
payment on a severance agreement, is held in a separate account, and will be
released to the Company's regular accounts in fiscal years 2000 and 2001 as
the obligation is paid.

NOTE 12
-------------------------------------------------------------------------------
NET INCOME (LOSS) PER WEIGHTED AVERAGE SHARE COMPUTATION

The components of net income (loss) per basic and diluted share are as follows:

<TABLE>
-----------------------------------------------------------------------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)                                        1999          1998          1997
-----------------------------------------------------------------------------------------------------------------
<S>                                                                           <C>         <C>            <C>
BASIC:
Net income (loss)                                                              $ (223)     $(2,627)       $2,550
Net income (loss) per share                                                   $  (.05)    $   (.64)        $ .62

Weighted average number of common shares outstanding                            4,098        4,085         4,135
-----------------------------------------------------------------------------------------------------------------


DILUTED:
Net income (loss)                                                              $ (223)     $(2,627)       $2,550
Net income (loss) per share                                                   $  (.05)    $   (.64)        $ .60

Weighted average number of common shares outstanding                            4,098        4,085         4,135
 Assumed conversion of stock options                                                -            -           144
-----------------------------------------------------------------------------------------------------------------
Weighted average common and assumed conversion shares                           4,098        4,085         4,279
-----------------------------------------------------------------------------------------------------------------
</TABLE>


<PAGE>

REPORT OF INDEPENDENT AUDITORS'

TO THE SHAREHOLDERS OF HEI, INC.:
We have audited the accompanying consolidated balance sheets of HEI, Inc. and
subsidiary as of August 31, 1999 and 1998 and the related consolidated
statements of operations, changes in shareholders' equity, and cash flows for
the years then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audit. The
accompanying consolidated financial statements of HEI, Inc. for the years ended
August 31, 1997 were audited by other auditors whose report, dated September 26,
1997, expressed an unqualified opinion on those statements.

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

In our opinion, the 1999 and 1998 consolidated financial statements referred
to above present fairly, in all material respects, the financial positions of
HEI, Inc. and subsidiary as of August 31, 1999 and 1998 and the results of
their operations and their cash flows for the years then ended, in conformity
with generally accepted accounting principles.



KPMG LLP
Minneapolis, Minnesota
October 6, 1999, except as to Note 5,
which is as of October 22, 1999


<PAGE>

STATEMENT OF FINANCIAL RESPONSIBILITY

The accompanying consolidated financial statements, including the notes thereto,
and other financial information presented in this Annual Report, were prepared
by management, which is responsible for their integrity and objectivity. The
consolidated financial statements have been prepared in accordance with
generally accepted accounting principles and include amounts that are based upon
management's best estimates and judgments.

The Company maintains a system of internal accounting controls designed to
provide reasonable assurance that the Company's assets are protected and that
transactions are executed in accordance with established authorizations and are
recorded properly. The reasonable assurance concept is based on recognition that
the cost of a system of internal accounting controls should not exceed the
benefit derived.

The Audit Committee of the Board of Directors is responsible for recommending
the independent accounting firm to be retained for the coming year. The Audit
Committee meets periodically and privately with the independent accountants, as
well as with management, to review accounting, auditing, and financial reporting
matters.

On September 25, 1998, the Company's Board of Directors took action to
approve the engagement of KPMG LLP (KPMG) as the Company's independent
accountants following the September 3, 1998 resignation of
PricewaterhouseCoopers LLP (PwC), the Company's independent accountants for
the five years through fiscal year ended August 31, 1997. The report by PwC
on the Company's financial statements for fiscal year ended August 31, 1997
did not contain an adverse opinion or disclaimer of opinion nor was it
qualified or modified as to uncertainty, scope, or accounting principles.
During the Company's fiscal year ended August 31, 1997, and the period from
September 1, 1997 to September 3, 1998, there were no disagreements with PwC
on any matter of accounting principles or practices, financial statement
disclosure, or auditing scope or procedure, that if not resolved to the
satisfaction of PwC would have caused it to make a reference to such
disagreement in its report nor any REPORTABLE EVENTS as defined in Item
304(a) (1) (v) of Regulation S-K. Prior to the engagement of KPMG, neither
the Company nor anyone acting on its behalf consulted KPMG on any matter of
accounting principles or the application of such principles to a particular
transaction.

The Company's independent accountants, KPMG, are engaged to audit the
consolidated financial statements of the Company and to issue their report
thereon. See the accompanying Report of Independent Auditors'.


<PAGE>

SUMMARY OF QUARTERLY OPERATING RESULTS (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------

FISCAL YEAR 1999                              FIRST         SECOND          THIRD         FOURTH
-------------------------------------------------------------------------------------------------
<S>                                          <C>            <C>          <C>             <C>
Net sales                                    $6,135         $7,053         $5,032         $6,103
Gross profit                                  1,300          1,479            639          1,172
Severance costs                                 490              -              -              -
Operating income (loss)                        (220)           240           (494)          (244)
Net income (loss)                              (102)           208           (176)          (153)
-------------------------------------------------------------------------------------------------
Net income (loss) per share
   Basic                                     $ (.02)          $.05       $  (.04)        $  (.04)
   Diluted                                   $ (.02)          $.05        $ (.04)        $  (.04)
-------------------------------------------------------------------------------------------------

<CAPTION>
FISCAL YEAR 1998                              FIRST         SECOND          THIRD         FOURTH
-------------------------------------------------------------------------------------------------
<S>                                          <C>            <C>            <C>            <C>
Net sales                                    $4,080         $4,632         $6,026         $6,067
Gross profit                                    537            992          1,414          1,270
Proxy/change of control costs                     -              -            274          5,390
Operating income (loss)                        (266)           137            336         (4,885)
Net income (loss)                              (104)           204            347         (3,074)
-------------------------------------------------------------------------------------------------
Net income (loss) per share
   Basic                                     $ (.03)          $.05           $.08        $  (.75)
   Diluted                                   $ (.03)          $.05           $.08        $  (.75)
-------------------------------------------------------------------------------------------------
</TABLE>

NOTE:
The summation of quarterly net income (loss) per share for 1998 does not equate
to the calculation for the year since the quarterly calculations are performed
on a discrete basis.



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

The information called for by Item 9 is incorporated by reference from the Proxy
Statement on page 24.

PART III

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16 (a) OF THE EXCHANGE ACT

The information regarding directors called for by Item 9 is contained in the
Proxy Statement under the caption "Item No. 1 Election of Directors" and is
incorporated herein by reference.

The following is a list of HEI, Inc. executive officers, their ages, positions
and offices as of November 24, 1999.

<TABLE>
<CAPTION>
NAME                             AGE     POSITION
----                             ---     --------
<S>                              <C>     <C>
Anthony J. Fant                  39      Chief Executive Officer

Donald R. Reynolds               41      President and Chief Operating Officer

Jerald H. Mortenson              65      Vice President of Finance and
                                         Administration, Chief Financial
                                         Officer and Treasurer
</TABLE>


<PAGE>

BUSINESS EXPERIENCE

ANTHONY J. FANT became Chief Executive Officer of the Company in November 1998.
Mr. Fant has been a director, President and Chief Executive Officer of Fant
Broadcasting Company (including, for these purposes, various affiliated
companies engaged primarily in television and radio broadcasting) since 1986.
From 1986 to 1996, Fant Broadcasting Company acquired, built or managed a number
of television and radio stations. Mr. Fant currently owns a number of businesses
in diverse industries.

DONALD R. REYNOLDS joined the Company in March 1998 as Executive Vice President
and was appointed President in April 1998 and Chief Operating Officer in January
1999. Before joining the Company, he was employed with BF Goodrich Aerospace in
senior executive positions in product engineering, marketing and business unit
management, and most recently as Business Unit Director for a business unit
having approximately $30 million in revenues. This business unit designed and
manufactured high technology products (sensors, electronics, software) for the
aerospace industry.

JERALD H. MORTENSON joined the Company in March 1990. Before joining the Company
he was employed for ten years with CTS Fabri-tek, first as Chief Financial
Officer and the last five years as Group President.

ITEM 11.  EXECUTIVE COMPENSATION

The information called for by Item 10 is contained in the Proxy Statement under
the captions "Executive Compensation" and "Item No. 1 Election of Directors" and
is incorporated herein by reference.

ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information called for by Item 11 is contained in the Proxy Statement under
the caption "Shares and Principal Shareholders" and is incorporated herein by
reference.

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information called for by Item 12 is contained in the Proxy Statement and is
incorporated herein by reference under the caption "Executive Officers and
Executive Compensation - Change in Control Agreements".

ITEM 14.  EXHIBITS AND REPORTS ON FORM 8-K

(a)      The following documents are filed as part of this report:

         (1)      Financial Statements - see Part II

         (2)      Financial Statement Schedule - All schedules have been omitted
                  because they are not applicable or not required or because the
                  information is included in the financial statements of the
                  notes thereto.

         (3)      Management Contracts - see list of Exhibits

(b)      Reports on Form 8-K: No reports on Form 8-K were filed during the
         fourth quarter of the fiscal year ended August 31, 1999.


<PAGE>

(c)      Exhibits:

<TABLE>
<S>          <C>                                                                                <C>
3.1          Restated Articles of Incorporation, as amended.                                    Note 1

3.2          Bylaws, as amended.                                                                Note 6

4.1a         Credit Agreement with Norwest Bank Minnesota, N.A. dated May 14, 1998.             Note 6

4.1b         Current Note with Norwest Bank Minnesota, N.A. dated May 14, 1998.                 Note 6

4.2a         Reimbursement Agreement by and between HEI, Inc. and Norwest Bank Minnesota,       Note 2
             N.A. dated April 1, 1996.

4.2b         Mortgage Security Agreement Fixture Financing Statement and Assignment of Leases   Note 2
             and Rents by HEI, Inc. as Mortgagor to Norwest Bank Minnesota, N.A. as Mortgagee
             dated April 1, 1996.

4.2c         Security Agreement by HEI, Inc. in favor of Norwest Bank Minnesota, N.A. dated     Note 2
             April 1, 1996.

10.1         Form of Indemnification Agreement between HEI and officers and directors.          Note 3

*10.2        HEI 1989 Omnibus Stock Compensation Plan adopted April 3, 1989, as amended to      Note 4
             date.

*10.3        1991 Stock Option Plan for Non-employee Directors, as amended to date.             Note 5

*10.4        1998 Stock Option Plan adopted November 18, 1998.                                  Note 6

*10.5        1998 Stock Option Plan for Non-employee Directors adopted                          Note 6
             November 18, 1998.

*10.6        Form of Agreement regarding Employment/Compensation upon change in control with    Note 5
             Messrs. Mortenson and Reynolds.

*10.7        Agreement regarding Employment/Compensation upon change in control with Mr.        Note 6
             Courtney, dated November 20, 1998.

13+          Annual Report to Shareholders for the year ended August 31, 1999.

15           Report of PricewaterhouseCoopers LLP.

23.1         Consent of KPMG LLP.

23.2         Consent of PricewaterhouseCoopers LLP.

27           Financial Data Schedule.
</TABLE>


<PAGE>

Notes to Exhibits above:

[1]      Filed as an exhibit to Annual Report on Form 10-K for the year ended
         August 31, 1990, and incorporated herein by reference.

[2]      Filed as an exhibit to Form 10-QSB for the quarter ended June 1, 1996,
         and incorporated herein by reference.

[3]      Filed as an exhibit to Registration Statement on Form S-2 (SEC no.
         33-37285) filed October 15, 1990, and incorporated herein by reference.

[4]      Filed as an exhibit to Annual Report on Form 10-KSB for the year ended
         August 31, 1996 and incorporated herein by reference.

[5]      Filed as an exhibit to Annual Report on Form 10-KSB for the year ended
         August 31, 1997 and incorporated herein by reference.

[6]      Filed as an exhibit to Annual Report on Form 10-KSB for the year ended
         August 31, 1998 and incorporated herein by reference.


  *   Denotes management contract or compensation plan or arrangement.


  +  Filed herewith.


<PAGE>

SIGNATURES

In accordance with Section 13 or 15(c) of the Exchange Act, the Registrant has
duly caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized

HEI, Inc.

BY:               /s/ Anthony J. Fant
                  -------------------------------------------
                  Anthony J. Fant, Chief Executive Officer

Date:    November 24, 1999




In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.


/s/ Anthony J. Fant                                           November 24, 1999
-------------------------------------------                   -----------------
Anthony J. Fant, Chairman                                            Date

/s/ Jerald H. Mortenson                                       November 24, 1999
-------------------------------------------                   -----------------
Jerald H. Mortenson, Vice President of Finance                       Date
and Administration, Chief Financial Officer and
Treasurer

/s/ Craig E. Roble                                            November 24, 1999
-------------------------------------------                   -----------------
Craig E. Roble, Company Controller                                   Date

/s/ Eugene W. Courtney                                        November 24, 1999
-------------------------------------------                   -----------------
Eugene W. Courtney, Director                                         Date

/s/ Edwin W. Finch, III                                       November 24, 1999
-------------------------------------------                   -----------------
Edwin W. Finch, Director                                             Date

/s/ David W. Ortlieb                                          November 24, 1999
-------------------------------------------                   -----------------
David W. Ortlieb, Director                                           Date

/s/ Steve E. Tondera, Jr.                                     November 24, 1999
-------------------------------------------                   -----------------
Steve E. Tondera, Jr., Director                                      Date

/s/ Mack V. Traynor, III                                      November 24, 1999
-------------------------------------------                   -----------------
Mack V. Traynor, III, Director                                       Date


<PAGE>

CORPORATE INFORMATION

BOARD OF DIRECTORS
ANTHONY J. FANT, CHAIRMAN
Chief Executive Officer of the Company, President and Chief Executive Officer,
Fant Industries Inc.

EUGENE W. COURTNEY
Chief Executive Officer, RSI Systems

EDWIN W. FINCH, III
President, FHL Capital Corporation

DAVID W. ORTLIEB
Independent Management Consultant

STEVE E. TONDERA, JR.
Managing Director of the Company-Mexico Division and Senior Vice President and
Chief Financial Officer, Fant Industries Inc.

MACK V. TRAYNOR, III
President and Chief Executive Officer,
NEO Networks

CORPORATE OFFICERS AND MANAGEMENT
ANTHONY J. FANT
Chief Executive Officer

DONALD R. REYNOLDS
President and Chief Operating Officer

JERALD H. MORTENSON
Vice President of Finance and Administration, Chief Financial Officer and
Treasurer

TOM GOODNOW
Vice President of Sales and Marketing

STEPHEN K. PETERSEN
Director of Manufacturing

ROBERT R. SHUE
Director of Design Engineering

WRAY A. WENTWORTH
Director of Corporate Quality

STEVE E. TONDERA, JR.
Managing Director of HEI-Mexico Division

KEITH (JIM) HICKS
General Manager of HEI-Mexico Division

JEFFREY FLAMMER
General Manager of HEI-High Density Interconnect Division

GENERAL COUNSEL
Brown & Wood LLP
New York, New York

Gray Plant Mooty
Minneapolis, Minnesota

INDEPENDENT ACCOUNTANTS
KPMG LLP
Minneapolis, Minnesota

STOCK TRANSFER AGENT AND REGISTRAR
Norwest Bank Minnesota, N.A.
Box 738
161 North Concord Exchange
South St. Paul
Minnesota  55075-0738

CORPORATE HEADQUARTERS
HEI, Inc.
P.O. Box 5000
1495 Steiger Lake Lane
Victoria, Minnesota  55386-5000
(612) 443-2500
E-mail: headqtrs@heii.com
Internet: www.heii.com

FORM 10-KSB
A copy of the Company's Annual Report to the Securities and Exchange Commission
on Form10-KSB is available without charge by written or oral request to:

Shareholder Relations
HEI, Inc.
P.O. Box 5000
Victoria, Minnesota  55386
Phone (612) 443-2500
Facsimile (612) 443-2668

ANNUAL MEETING OF SHAREHOLDERS
The Company's annual meeting of shareholders will be held on January 20, 2000 at
3:00 PM at The Planets (50th floor), IDS Center, 80 South Eighth Street,
Minneapolis, Minnesota