<PAGE>   1


                                                                     EXHIBIT 13



                            Annual Report on Form 10K


                       ITEM 14(a)(1) and (2), (c) and (d)


         List of Financial Statements and Financial Statement Schedules


                                Certain Exhibits


                          Financial Statement Schedules


                          Year Ended December 31, 1998


                                   MEDAR, INC.


                              Farmington Hills, MI






                                       1
<PAGE>   2


                        Form 10-K - ITEM 14(a)(1) and (2)
                          Medar, Inc. and Subsidiaries

LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES


     (a)(1)    The following consolidated financial statements of Medar, Inc.
               and subsidiaries are included in ITEM 8:

               Report of Independent Auditors
               Consolidated Balance Sheets-December 31, 1998 and 1997
               Consolidated Statements of Operations-Years ended December 31,
               1998, 1997 and 1996
               Consolidated Statements of Stockholders'
               Equity-Years ended December 31, 1998, 1997, and 1996
               Consolidated Statements of Cash Flows-Years ended December 31,
               1998, 1997 and 1996
               Notes to Consolidated Financial Statements-December 31, 1998

     (2)       The following Consolidated Financial Statement schedule of Medar,
               Inc. and subsidiaries is submitted herewith:

               Schedule II      Valuation and qualifying accounts

               All other schedules for which provision is made in the applicable
               accounting regulation of the Securities and Exchange Commission
               are not required under the related instructions or are 
               inapplicable, and therefore have been omitted.





                                       2
<PAGE>   3
                         Report of Independent Auditors

BOARD OF DIRECTORS AND STOCKHOLDERS
MEDAR, INC.

         We have audited the consolidated balance sheets of Medar, Inc. and
         subsidiaries as of December 31, 1998 and 1997, and the related
         consolidated statements of operations, stockholders' equity, and cash
         flows for each of the three years in the period ended December 31,
         1998. Our audits included the financial statement schedule listed in
         the index at ITEM 14(a). These financial statements and schedule are
         the responsibility of the Company's management. Our responsibility is
         to express an opinion on these financial statements based on our
         audits.

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

         In our opinion, the consolidated financial statements referred to above
         present fairly, in all material respects, the consolidated financial
         position of Medar, Inc. and subsidiaries at December 31, 1998 and 1997,
         and the consolidated results of their operations and their cash flows
         for each of the three years in the period ended December 31, 1998, in
         conformity with generally accepted accounting principles. Also, in our
         opinion, the related financial statement schedule, when considered in
         relation to the basic financial statements taken as a whole, presents
         fairly in all material respects the information contained therein.

         The accompanying financial statements have been prepared assuming that
         the Company will continue as a going concern. As more fully described
         in Note D, as a result of recurring operating losses the Company has 
         violated the provisions of certain of its loan agreements with regard 
         to levels of tangible net worth.  Consequently the revolver and term 
         notes with the Bank, all mature in June 1999.  The Company is 
         currently exploring alternatives for financing its operations should 
         the Bank elect not to extend the agreement.  These conditions raise 
         substantial doubt about the Company's ability to continue as a going
         concern. Management's plans in regard to these matters are more fully
         described in Note D. The financial statements do not include any
         adjustments to reflect the possible future effects on the
         recoverability and classification of assets or the amounts and
         classification of liabilities that may result from the outcome of this
         uncertainty.



                                               /S/ Ernst & Young LLP



Detroit, Michigan 
February 23, 1999, except for Note D
as to which the date is March 31, 1999




                                       3
<PAGE>   4

CONSOLIDATED BALANCE SHEETS
MEDAR, INC. AND SUBSIDIARIES



<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------------
                                                                                               DECEMBER 31
--------------------------------------------------------------------------------------------------------------------
                                                                                            1998           1997
--------------------------------------------------------------------------------------------------------------------
                                                                                             (IN THOUSANDS)
<S>                                                                                   <C>                <C>               
ASSETS
CURRENT ASSETS
         Cash                                                                         $         566      $      831        
         Accounts receivable, less allowance of $400,000                                     10,901          10,682
         Inventories                                                                          9,749          14,227
         Costs and estimated earnings in excess of billings on incomplete contracts           1,495           2,568
         Other current assets                                                                   683             881
-----------------------------------------------------------------------------------------------------------------------
TOTAL CURRENT ASSETS                                                                         23,394          29,189
PROPERTY AND EQUIPMENT
         Land and improvements                                                                  377             377
         Building and building improvements                                                   6,317           6,317
         Production and engineering equipment                                                 4,217           3,791
         Furniture and fixtures                                                               1,022           1,022
         Vehicles                                                                               365             875
         Computer equipment                                                                   5,675           5,241
-----------------------------------------------------------------------------------------------------------------------
                                                                                             17,973          17,623
         Less accumulated depreciation                                                        9,485           8,021
-----------------------------------------------------------------------------------------------------------------------
                                                                                              8,488           9,602
OTHER ASSETS
         Capitalized computer software development costs, less accumulated                                             
         amortization                                                                         5,349          10,796
         Patents, less accumulated amortization                                               1,890           2,127
         Other                                                                                  692             892
-----------------------------------------------------------------------------------------------------------------------
                                                                                              7,931          13,815
-----------------------------------------------------------------------------------------------------------------------
                                                                                      $      39,813      $   52,606        
=======================================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
         Accounts payable                                                             $       5,559      $    4,472        
         Employee compensation                                                                  889           1,110
         Accrued and other liabilities                                                          827             714
         Current maturities of long-term debt                                                13,478          19,415
-----------------------------------------------------------------------------------------------------------------------
TOTAL CURRENT LIABILITIES                                                                    20,753          25,711

LONG-TERM DEBT, less current maturities                                                       8,199           4,892

STOCKHOLDERS' EQUITY
          Common stock, without par value, stated value $.20 per share;                                                
          15,000,000 shares authorized; 9,024,901 shares issued and outstanding               1,805           1,805
         Additional paid-in capital                                                          31,187          31,187
         Retained-earnings deficit                                                         (21,628)        (10,444)
         Notes receivable from officers                                                       (580)           (552)
         Accumulated translation adjustment                                                      77               7
-----------------------------------------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY                                                                   10,861          22,003
-----------------------------------------------------------------------------------------------------------------------
                                                                                      $      39,813      $   52,606        
=======================================================================================================================
</TABLE>

See accompanying notes




                                       4
<PAGE>   5




CONSOLIDATED STATEMENTS OF OPERATIONS
MEDAR, INC. AND SUBSIDIARIES

<TABLE>
<CAPTION>
                                                                         YEAR ENDED DECEMBER 31
--------------------------------------------------------------------------------------------------------------------
                                                             1998                 1997                 1996
--------------------------------------------------------------------------------------------------------------------
                                                                 (IN THOUSANDS, EXCEPT PER SHARE DATA)
--------------------------------------------------------------------------------------------------------------------
<S>                                                    <C>                  <C>                  <C>           
NET REVENUES                                           $      34,813        $       40,524       $       41,471
Direct costs of sales                                         25,742                29,077               30,788
--------------------------------------------------------------------------------------------------------------------
                                                               9,071                11,447               10,683
Other costs and expenses:
         Marketing                                             4,096                 4,161                4,510
         General and administrative                            2,988                 2,700                3,203
         Engineering and development:
             Expenditures                                      7,400                 9,271                9,749
             Allocated to capitalized software and                                                                  
               direct cost of sales                           (2,256)               (6,868)              (6,197)
--------------------------------------------------------------------------------------------------------------------
             Net Expense                                       5,144                 2,403                3,552
         Product restructuring and other charges               5,571
--------------------------------------------------------------------------------------------------------------------
                                                              17,799                 9,264               11,265
--------------------------------------------------------------------------------------------------------------------
Earnings (loss) from operations                              (8,728)                 2,183                (582)
Interest                                                       2,456                 2,289                1,473
--------------------------------------------------------------------------------------------------------------------
Loss before income taxes                                    (11,184)                 (106)              (2,055)
Provision (credit) for income taxes                                -                    38                 (76)
--------------------------------------------------------------------------------------------------------------------
NET LOSS                                               $    (11,184)        $        (144)       $      (1,979)
====================================================================================================================

Basic and diluted loss per share                       $      (1.24)        $        (.02)       $        (.22)
====================================================================================================================
</TABLE>

See accompanying notes





                                       5
<PAGE>   6




CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
MEDAR, INC. AND SUBSIDIARIES

<TABLE>
<CAPTION>
                                                    ADDITIONAL     RETAINED                ACCUMULATED                   
                                     COMMON STOCK    PAID-IN       EARNINGS     OFFICER    TRANSLATION        TOTAL
                                                     CAPITAL      (DEFICIT)      NOTES      ADJUSTMENT
-------------------------------------------------------------------------------------------------------------------------
                                                                       (IN THOUSANDS)
-------------------------------------------------------------------------------------------------------------------------
<S>                                  <C>          <C>                <C>          <C>           <C>      <C>             
BALANCES AT JANUARY 1, 1996          $   1,742    $    29,438      $ (8,321)     $(331)        $(92)    $      22,436   
   Net loss for the year                                             (1,979)                                   (1,979)
   Translation adjustments                                                                       156               156
                                                                                                             ------------
      Comprehensive loss                                                                                       (1,823)
                                                                                                             ------------
   Exercise of options to purchase                                                                                       
      140,812 shares                        29            329                                                      358
   Loans to Officers                                                              (152)                          (152)
-------------------------------------------------------------------------------------------------------------------------
BALANCES AT DECEMBER 31, 1996            1,771         29,767       (10,300)      (483)           64            20,819
   Net loss for the year                                               (144)                                     (144)
   Translation adjustments                                                                      (57)              (57)
                                                                                                             ------------
      Comprehensive loss                                                                                         (201)
                                                                                                             ------------
   Issuance of 150,000 shares               30            720                                                      750
   Exercise of options to purchase           4             98                                                      102
      22,500 shares
   Issuance of stock warrants                             602                                                      602
   Loans to Officers                                                               (69)                           (69)
-------------------------------------------------------------------------------------------------------------------------
BALANCES AT DECEMBER 31, 1997            1,805         31,187       (10,444)      (552)            7            22,003
   Net loss for the year                                            (11,184)                                  (11,184)
   Translation adjustments                                                                        70                70
                                                                                                             ------------
      Comprehensive loss                                                                                      (11,114)
                                                                                                             ------------
   Loans to Officers                                                               (28)                           (28)
=========================================================================================================================
BALANCES AT DECEMBER 31, 1998        $   1,805    $    31,187       $(21,628)     $(580)        $  77    $      10,861   
=========================================================================================================================
</TABLE>
See accompanying notes.




                                       6
<PAGE>   7




CONSOLIDATED STATEMENTS OF CASH FLOWS
MEDAR, INC. AND SUBSIDIARIES

<TABLE>
<CAPTION>
                                                                          YEAR ENDED DECEMBER 31
-------------------------------------------------------------------------------------------------------------
                                                                    1998           1997            1996
-------------------------------------------------------------------------------------------------------------
                                                                              (IN THOUSANDS)
-------------------------------------------------------------------------------------------------------------
<S>                                                               <C>         <C>                 <C>           
OPERATING ACTIVITIES
Net loss                                                       $  (11,184)    $      (144)      $  (1,979)       
Adjustments to reconcile net loss to net cash provided by
   operating activities:
    Depreciation and amortization                                    4,051           5,279          4,529
    Restructuring Charges                                            5,571               -              -
    Credit for deferred income taxes                                     -               -           (76)
    (Increase) decrease in net accounts receivable                   (219)         (1,267)          (797)
    (Increase) decrease in inventories                               4,478           1,764        (2,824)
    (Increase) decrease in costs and estimated earnings                                                      
        in excess of billings on incomplete contracts                1,073           (727)        (1,160)
    (Increase) decrease in other assets                              (112)         (1,053)           310
    Increase (decrease) in accounts payable and accrued                                                      
        expenses                                                       979         (1,031)          1,884
-------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities                            4,637           2,821          (113)

INVESTING ACTIVITIES
Increase in property and equipment                                   (691)           (879)        (2,283)
Investment in capitalized software                                 (1,651)         (5,383)        (4,669)
-------------------------------------------------------------------------------------------------------------
Net cash used in investing activities                              (2,342)         (6,262)        (6,952)

FINANCING ACTIVITIES
Repayments of revolving line of credit and other                                                             
   obligations                                                    (24,696)        (34,740)       (20,154)
Proceeds from draws on revolving line of credit                     22,066          37,400         25,364
Proceeds from exercise of stock options                                  -             102            358
Proceeds from sale of common stock                                       -             750
Proceeds from issuance of stock warrants                                 -             602
-------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities                          (2,630)           4,114          5,568
-------------------------------------------------------------------------------------------------------------
Effect of exchange rate changes                                         70            (57)            156
-------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash                                          (265)             616        (1,341)
Cash at beginning of  year                                             831             215          1,556
-------------------------------------------------------------------------------------------------------------
Cash at end of year                                            $       566    $        831      $      215       
=============================================================================================================
</TABLE>
See accompanying notes.




                                       7
<PAGE>   8

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MEDAR, INC. AND SUBSIDIARIES


NOTE A - SIGNIFICANT ACCOUNTING POLICIES

PRINCIPLES OF CONSOLIDATION

         The consolidated financial statements include the accounts of the
         Company and its two 100% owned subsidiaries: Integral Vision LTD.,
         United Kingdom; and Medar Canada Ltd., Canada. Upon consolidation, all
         significant intercompany accounts and transactions are eliminated.

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. Estimates also affect the reported
         amounts of revenues and expenses during the reporting period. Actual
         results could differ from those estimates.

TRANSLATION OF FOREIGN CURRENCIES

         The financial statements of Integral Vision LTD. and Medar Canada Ltd.
         are translated into United States dollar equivalents at exchange rates
         as follows:  balance sheet accounts at year-end rates; income 
         statement accounts at average exchange rates for the year.  
         Transaction gains and losses are reflected in net earnings and are not
         significant.

ACCOUNTS RECEIVABLE

         Trade accounts receivable primarily represent amounts due from
         equipment and automobile manufacturers located in North America for
         welding control products and from equipment manufacturers and end users
         in North America, Asia and Europe for Machine vision products.

         Customers which accounted for 10% or more of the Company's resistance
         welding controls revenues in any of the three years ended December 31,
         1998 and the respective sales in each year are:

<TABLE>
<CAPTION>
                                                     1998             1997            1996
  -----------------------------------------------------------------------------------------------
                                                                 (IN THOUSANDS)
  -----------------------------------------------------------------------------------------------
<S>                                            <C>               <C>             <C>              
DaimlerChrysler AG                             $      6,132      $    4,607      $       6,009    
General Motors Corporation                     $      5,180      $    5,778      $       7,730    
================================================================================================
</TABLE>





                                       8
<PAGE>   9

NOTE A - SIGNIFICANT ACCOUNTING POLICIES - CON'T

INVENTORIES

         Inventories are stated at the lower of first-in, first-out cost or
         market, and at December 31 consisted of the following (net of
         obsolescence reserve of $300,000 in 1998 and $210,000 in 1997):


<TABLE>
<CAPTION>
                                                  1998              1997
--------------------------------------------------------------------------
                                                        (IN THOUSANDS)
--------------------------------------------------------------------------
<S>                                           <C>         <C>           
Raw materials                                 $  5,244    $       6,076 
Work in process                                  1,818            1,654
Finished goods                                   2,687            6,497
--------------------------------------------------------------------------
                                              $  9,749    $      14,227 
==========================================================================
</TABLE>

PROPERTY AND EQUIPMENT

         Property and equipment is stated on the basis of cost. Equipment
         capitalized under lease agreements and the related accumulated
         amortization is included in property and equipment. Expenditures for
         normal repairs and maintenance are charged to operations as incurred.

         Depreciation, including amortization of assets recorded under capital
         lease obligations, is computed by the straight-line method based on the
         estimated useful lives of the assets (buildings-40 years, other
         property and equipment-3 to 10 years).

CAPITALIZED COMPUTER SOFTWARE DEVELOPMENT COSTS

         Computer software development costs are capitalized after the
         establishment of technological feasibility of the related technology.
         These costs are amortized following general release of products based
         on current and estimated future revenue for each product with an annual
         minimum equal to the straight-line amortization over the remaining
         estimated economic life of the product (not to exceed 5 years).
         Management continually reviews the net realizable value of capitalized
         software costs. At the time that a determination is made that
         capitalized software amounts exceed the estimated net realizable value
         of amounts capitalized, any amounts in excess of the estimated
         realizable amounts are written off. (See Note B.)

         Amortization of the capitalized costs amounted to $1,827,000,
         $3,590,000, and $2,522,000 in 1998, 1997 and 1996, respectively. Total
         accumulated amortization at December 31, 1998 and 1997, was $4,249,000
         and $13,483,000, respectively.

PATENTS

         Patents are stated at cost less accumulated amortization of $1,467,000
         and $1,048,000 at December 31, 1998 and 1997, respectively.
         Amortization of the patents amounted to $419,000, $388,000 and $317,000
         in 1998, 1997, and 1996, respectively. These costs are amortized on a
         straight-line basis over the estimated useful lives of the assets.




                                       9
<PAGE>   10

NOTE A - SIGNIFICANT ACCOUNTING POLICIES - CON'T

REVENUE RECOGNITION

         Revenues are recorded at the time services are performed or when
         products are shipped, except for long-term contracts. Revenues on
         long-term contracts are recognized using the percentage of completion
         method. The effects of changes to estimated total contract costs are
         recognized in the year determined and losses, if any, are fully
         recognized when identified. Costs and estimated earnings recognized in
         excess of amounts billed are classified under current assets as costs
         and estimated earnings in excess of billings on incomplete contracts.
         Long-term contracts include a relatively high percentage of engineering
         costs and are generally less than one year in duration.

INCOME TAXES

         Deferred income taxes are provided when necessary to recognize the
         effect of temporary differences between financial and income tax
         accounting related principally to contract revenues, depreciation and
         capitalized computer software development costs.

RECLASSIFICATIONS

         Certain amounts have been reclassified in prior years' presentations to
         conform to the current year's presentation.

NOTE B - RESTRUCTURING OF OPERATIONS

         Early in the second quarter of 1998, Management completed an evaluation
         of competitive conditions and product offerings in the vision and
         welding divisions. A charge of $6,973,000 was recorded as of March 31,
         1998 to give effect to the impairment of assets identified in this
         review. The charge consisted of $5,268,000 related to capitalized
         software development costs, $1,402,000 related to inventory (included
         in direct costs of sales) and $303,000 of other accruals.




                                       10
<PAGE>   11

NOTE C - COSTS AND ESTIMATED EARNINGS IN EXCESS OF BILLINGS ON INCOMPLETE
         CONTRACTS

         Costs and estimated earnings in excess of billings on incomplete
         contracts at December 31 are summarized as follows:

<TABLE>
<CAPTION>
                                                      1998                1997
----------------------------------------------------------------------------------
                                                           (IN THOUSANDS)
----------------------------------------------------------------------------------
<S>                                        <C>                 <C>            
Contract costs to date                     $         4,766     $         3,499
Estimated contract earnings                          3,363               3,377
----------------------------------------------------------------------------------
                                                     8,129               6,876
Less billings to date                                6,634               4,308
----------------------------------------------------------------------------------
Costs and estimated earnings in excess                                            
of billings on incomplete contracts        $         1,495     $         2,568
==================================================================================
</TABLE>

         The Company anticipates that substantially all of the costs incurred on
         long-term contracts at December 31, 1998, will be billed and collected
         in 1999.

NOTE D - LONG-TERM DEBT AND OTHER FINANCING ARRANGEMENTS

         Long-term debt at December 31 consists of the following:

<TABLE>
<CAPTION>
                                                                         1998               1997
--------------------------------------------------------------------------------------------------------
                                                                              (IN THOUSANDS)
--------------------------------------------------------------------------------------------------------
<S>                                                                 <C>               <C>          
Revolving note payable to bank                                      $      10,000     $      12,258
Term notes payable to bank                                                  3,214             3,660
Subordinated debentures, 12.95%                                                                        
     (Net of $417,000 ($510,000 in 1997) unaccreted value 
     assigned to related warrants)                                          6,583             6,490
Patent license payable                                                      1,554             1,715
Other                                                                         326               184
-------------------------------------------------------------------------------------------------------
                                                                           21,677            24,307
Less current maturities                                                    13,478            19,415
-------------------------------------------------------------------------------------------------------
                                                                    $       8,199     $       4,892
=======================================================================================================
</TABLE>

         The revolving note payable to bank had an original due date of August
         31, 1999, and currently provides for advances up to $10,000,000 based
         upon levels of eligible accounts receivable and inventory. At December
         31, 1998, the line was fully drawn and interest was at the Bank's prime
         rate plus 1%. For various periods during the year, the Company was not
         in compliance with certain of the covenants of the agreement associated
         with the note payable. Under a new agreement entered into late in the
         year, the Bank and Company agreed to continue the loan on a basis
         similar to the operating basis followed under the original agreement.
         The principal change from the former agreement is that the new
         agreement expires on March 5, 1999. As of March 4, 1999, the Bank and
         the Company agreed to extend the expiring new agreement to June 7,
         1999, under substantially similar terms as the expiring agreement.
         Substantially all Company assets not previously pledged under term
         notes (see below), have been pledged as collateral for this
         indebtedness.




                                       11
<PAGE>   12

NOTE D - LONG-TERM DEBT AND OTHER FINANCING ARRANGEMENTS - CON'T

         The term notes to bank are covered under the new agreement with the
         Bank as to expiration date, and therefore are all due June 7, 1999. The
         term notes are described as follows:

         -    $62,500 quarterly plus interest at the Bank's prime rate, plus 1%,
              collateralized by a first mortgage on the Company's Grand River
              facility;

         -    $14,111 monthly, plus interest at 8.7%, collateralized by a first
              mortgage on the Company's Crestview facility; 

         -    $2,189 monthly, plus interest at the Bank's prime rate, plus 1%

         The subordinated debentures mature $700,000 on each June 30 in the
         years 2000 to 2004, with the balance due June 30, 2005. Interest on the
         debentures is payable quarterly at 12.95% per annum. At the time the 
         debentures were issued, the debenture holders were granted warrants for
         the purchase 1,400,000 shares of the Company's common stock at $6.86.
         At December 31, 1997 and throughout 1998, the Company was not in
         compliance with certain of the covenants of the debenture agreement and
         the Company was unsuccessful in 1998 in obtaining waivers of the
         covenant violations. As a result, at December 31, 1997 and throughout
         1998 the debentures were classified as a current liability. Under an
         agreement reached in March of 1999, the debenture holders agreed to
         adjust the loan covenants and make other changes in the agreement in
         exchange for an agreement by the Company to allow for repricing of the
         related warrants based on the occurance of certain future events. In
         light of the agreement reached with the debenture holders, management
         now believes that it can comply with the requirements of the new
         agreement going forward and on this basis has classified the debentures
         as a noncurrent liability at December 31, 1998.

         During the first quarter of 1998, management reduced the Company's
         breakeven point though cost reductions and continues to challenge
         operating costs and other expenditures. Additionally, management is
         currently exploring alternatives for financing its operations. These
         options include locating and appointing a new senior lending
         institution. Management believes that these efforts will allow the
         Company to meet its obligations as they come due over the next year.

         The patent license payable relates to future payments to a corporation
         for use of certain patents. The payments are due in seven remaining
         installments and have been discounted at 8%.

         The fair values of these financial instruments approximates their
         carrying amounts at December 31, 1998. The Company paid interest on its
         debt instruments of $2,274,000, $2,039,000, and $1,646,000 in 1998,
         1997 and 1996, respectively.

         Maturities of long-term debt are $946,000 in 2000; $970,000 in 2001;
         $998,000 in 2002; $968,000 in 2003; $4,317,000 thereafter.





                                       12
<PAGE>   13

 NOTE E - INCOME TAXES

         The Company establishes valuation allowances in accordance with the
         provisions of FASB Statement No. 109, "Accounting for Income Taxes."
         The Company continually reviews realizability of deferred tax assets
         and recognizes these benefits only as reassessment indicates that it is
         more likely than not that the benefits will be realized.

         As of December 31, 1998, the Company has cumulative net operating loss
         carryforwards approximating $28,100,000 (expiring: $4,502,000 in 2007,
         $7,955,000 in 2010, $3,889,000 in 2011, $6,404,000 in 2012, and
         $5,350,000 in 2018) for tax purposes available to reduce taxable income
         of future periods and unused investment and research and development
         tax credits approximating $983,000 which expire through 2013. For
         financial reporting purposes, the net operating losses have been offset
         against net deferred tax liabilities based upon their expected
         amortization during the loss carryforward period. The remaining
         valuation allowance is necessary due to the uncertainty of future
         income estimates. The valuation allowance increased $3,883,000 in 1998
         and decreased $55,000 in 1997 and increased $448,000 in 1996.

         Deferred income taxes reflect the net tax effects of temporary
         differences between the carrying amounts of assets and liabilities for
         financial reporting purposes and the amounts used for income tax
         purposes. Significant components of the Company's deferred tax
         liabilities and assets as of December 31 are as follows:

<TABLE>
<CAPTION>
                                                                      1998            1997
-------------------------------------------------------------------------------------------------
                                                                         (IN THOUSANDS)
-------------------------------------------------------------------------------------------------
<S>                                                               <C>             <C>         
Deferred tax liabilities:                                                         
         Deductible software development costs, net of                                           
         amortization                                             $      1,808    $      3,609
         Tax over book depreciation                                        498             275
         Percentage of completion                                          508             873
-------------------------------------------------------------------------------------------------
Total deferred tax liabilities                                           2,814           4,757

Deferred tax assets:
         Net operating loss carryforwards                                9,489           7,592
         Credit carryforwards                                            1,097           1,061
         Reserve for warranty                                               61              68
         Other                                                             339             325
-------------------------------------------------------------------------------------------------
Total deferred tax assets                                               10,986           9,046
Valuation allowance for deferred tax assets                              8,172           4,289
-------------------------------------------------------------------------------------------------
Net deferred tax assets                                                  2,814           4,757
-------------------------------------------------------------------------------------------------
Net deferred tax                                                  $          0    $          0
=================================================================================================
</TABLE>





                                       13
<PAGE>   14

NOTE E - INCOME TAXES - CON'T

         Income tax expense of $38,000 for 1997 and income tax credits of
         $(76,000) for 1996 represent income taxes paid (refunded) on foreign
         income.

         The reconciliation of income taxes computed at the U.S. federal
         statutory tax rates to income tax expense is as follows:

<TABLE>
<CAPTION>
                                                         1998           1997            1996
        ----------------------------------------------------------------------------------------
                                                                  (IN THOUSANDS)
        ----------------------------------------------------------------------------------------
<S>                                              <C>             <C>             <C>         
        Tax credit at U.S. statutory rates       $    (3,802)    $        (36)   $      (699)
        Change in valuation allowance                  3,883              (55)           488
        Nondeductible expenses                            38               43             73
        Other                                          (119)               86             62
        ========================================================================================
                                                 $         0     $         38    $       (76)
        ========================================================================================
</TABLE>

         There were no income tax payments in 1998, 1997 or 1996.

NOTE F - EARNINGS PER SHARE

         The following table sets forth the computation of basic and diluted
         earnings per share:

<TABLE>
<CAPTION>
                                                         1998              1997               1996
----------------------------------------------------------------------------------------------------
                                                    (IN THOUSANDS, EXCEPT PER SHARE DATA)
NUMERATOR:
<S>                                            <C>               <C>                <C>            
Net loss for basic and diluted earnings        
per share:
*there was no effect of dilutive
securities see below                           $     (11,184)    $         (144)    $       (1,979)


DENOMINATOR:
Weighted-average shares outstanding for                                                             
basic and diluted                                      9,025              8,897              8,820
====================================================================================================
*there was no effect of dilutive
securities see below

Basic and diluted loss per share               $       (1.24)    $        (0.02)    $        (0.22)
====================================================================================================
</TABLE>

         Warrants and options outstanding were not included in the computation
         of diluted earnings per share because the inclusion of these options
         would have an antidilutive effect. For additional disclosures regarding
         stock options and warrants see Note H.




                                       14
<PAGE>   15

NOTE G - EMPLOYEE SAVINGS PLAN

         The Company has an Employee Savings Plan covering substantially all
         United States' employees. The Company contributes $.20 to the Plan for
         every dollar contributed by the employees up to 6% of their
         compensation. The Plan also provides for discretionary contributions by
         the Company as determined annually by the Board of Directors. Company
         contributions charged to operations under the Plan were $80,000,
         $66,000, and $89,000 for the years ended December 31, 1998, 1997 and
         1996, respectively.

NOTE H - STOCK OPTIONS AND WARRANTS

         A summary of the status of the Option Plan is as follows:

<TABLE>
<CAPTION>
                                                    NON-QUALIFIED                     
                                  QUALIFIED ISO      STOCK OPTION                     
                                       PLAN              PLAN           1995 PLAN
-------------------------------------------------------------------------------------
                                                  (IN THOUSANDS)
-------------------------------------------------------------------------------------
<S>                                     <C>                 <C>             <C>
Options outstanding                     195                 16              386
Options exercisable                     195                 16              386
Options granted during:
         1998                             0                  0                0
         1997                             0                  0              267
         1996                             0                  0              132
         1995                                                               211
Options available
         For Grant                        0                  0              112
======================================================================================
</TABLE>

         Option grants are approved by the Compensation Committee of the Board
         of Directors. The option price is the market price on the date of the
         grant, and vesting generally occurs after one year and the expiration
         occurs after ten years from the date of the grant.

         A summary of option activity under all plans follows:

<TABLE>
<CAPTION>
                                                        1998                         1997                 1996
   -------------------------------------------------------------------------------------------------------------------
                                                               WEIGHTED                    WEIGHTED                   
                                                               AVERAGE                      AVERAGE                   
                                                 SHARES     EXERCISE PRICE    SHARES    EXERCISE PRICE     SHARES
   -------------------------------------------------------------------------------------------------------------------
                                                                  (NUMBER OF SHARES IN THOUSANDS)
   -------------------------------------------------------------------------------------------------------------------
<S>                                              <C>        <C>              <C>         <C>              <C>
  Outstanding at beginning of year                 662      $       5.64        589      $      5.87         788
  Granted                                            0                 0        267             5.20         132
  Exercised                                          0                 0       (23)             4.57       (141)
  Canceled                                        (65)              5.74      (171)             5.88       (190)
  -------------------------------------------------------------------------------------------------------------------
  Outstanding at end of year                       597              5.48        662             5.64         589
       ($1.75  to $9.25 per share)
  ===================================================================================================================
  Exercisable ($1.75 to $9.25 per share)           597      $       5.48        396      $      5.93         464
  ===================================================================================================================
</TABLE>





                                       15
<PAGE>   16

NOTE H - STOCK OPTIONS AND WARRANTS - CON'T

         Additional information regarding the range of exercise prices and
         weighted average remaining life of options outstanding at December 31,
         1998 follows:

<TABLE>
<CAPTION>
                                         WEIGHTED                       
     RANGE OF            NUMBER           AVERAGE           NUMBER
     EXERCISE         OUTSTANDING        REMAINING       EXERCISABLE
      PRICES                               LIFE
------------------------------------------------------------------------
                          (IN THOUSANDS)
------------------------------------------------------------------------
<S>                        <C>             <C>                <C>
    $1.75 to 2.50            11              1.0                11
     4.00 to 4.88           345              6.0               345
     5.38 to 5.75            15             8.75                15
     6.00 to 6.25           154              6.0               154
     8.50 to 9.25            72             6.25                72
========================================================================
    $1.75 to 9.25           597              6.5               597
========================================================================
</TABLE>

         The Company has elected to follow APB No. 25 "Accounting for Stock
         Issued to Employees" and related interpretations in accounting for its
         employee stock options because, in management's opinion, the models
         required to be used by FASB Statement No. 123, "Accounting for
         Stock-Based Compensation," were not developed for use in valuing
         employee stock options. Under APB 25, because the exercise price of the
         Company's employee stock options equals the market price of the
         underlying stock on the date of grant, no compensation expense is
         recognized.

         For purposes of pro forma disclosures, the estimated fair value of the
         options is amortized to expense over the options' vesting period. After
         adjusting for the proforma effect of stock compensation, the net loss
         is estimated to be $11,532,000 ($1.28 per share), $470,000 ($.05 per
         share), and $2,393,000 ($.27 per share) for 1998, 1997 and 1996
         respectively. Assumptions used in determining these proforma
         disclosures were risk free interest rates of 6.00% in 1998 and 1997,
         and 6.12 % in 1996, no dividend yields, .51 market price volatility,
         and 6.5-year weighted average life of options. These proforma results
         reflect only stock options granted in 1995 through 1997 (no options
         were issued during 1998) and may not be comparable with the results of
         applying the fair market value methodology to all stock options granted
         prior to the initial adoption of this statement.

         In connection with the private placement of $7.0 million of debentures
         in 1997, the company issued warrants for the purchase of 1,400,000
         Medar common shares at $6.86 per share. The estimated value of these
         warrants was recognized as a discount on the debentures and will be
         accreted and reported as additional interest expense over the life of
         the debentures.

NOTE I - LEASE COMMITMENTS AND CONTINGENCIES

         The Company and its subsidiaries use equipment and office space under
         long-term operating lease agreements requiring rental payments
         approximating $104,000 in 1999, $83,000 in 2000 and $57,000 per year in
         2001 and 2002. Rent expense charged to operations approximated
         $107,000, $156,000, and $276,000 in 1998, 1997 and 1996, respectively.



                                       16
<PAGE>   17

NOTE J - OPERATIONS BY GEOGRAPHIC AREA AND INDUSTRY SEGMENT

         The Company adopted Statement of Financial Accounting Standards
         ("SAFS") No. 131, Disclosures about Segments of an Enterprise and
         Related Information, for the year ended December 31, 1998. SFAS No. 131
         established standards for reporting information about operating
         segments in annual financial statements and requires selected
         information about operating segments in interim financial reports
         issued to stockholders. It also established standards for related
         disclosures about products and services, and geographic areas.
         Operating segments are defined as components of the enterprise about
         which separate financial information is available that is evaluated
         regularly by management in deciding how to allocate resources and in
         assessing performance.

         Net revenues from unaffiliated customers, earnings (loss) before income
         taxes, identifiable assets and liabilities, classified by geographic
         areas in which the Company operates, and net export sales by domestic
         operations, were as follows:

<TABLE>
<CAPTION>
                                                            YEAR ENDED DECEMBER 31
----------------------------------------------------------------------------------------------------
                                                   1998               1997              1996
----------------------------------------------------------------------------------------------------
                                                                (IN THOUSANDS)
----------------------------------------------------------------------------------------------------
<S>                                           <C>               <C>                <C>            
Net revenues:
         Unaffiliated customers
                  United States               $       31,290    $        38,865    $        34,366
                  United Kingdom                       2,661                960              2,440
                  Canada                                 862                699              4,665
-----------------------------------------------------------------------------------------------------
                                              $       34,813    $        40,524    $        41,471
=====================================================================================================
Earnings (loss) before income taxes:
         United States                        $      (9,982)    $         2,004    $       (1,616)
         United Kingdom                              (1,232)            (2,232)              (495)
         Canada                                           30                122                 56
-----------------------------------------------------------------------------------------------------
                                              $     (11,184)    $         (106)    $       (2,055)
=====================================================================================================
Identifiable assets:
         United States                        $       42,688    $        50,058    $        44,538
         United Kingdom                                1,608              4,471              4,993
         Canada                                          169                163              1,712
         Eliminations                                (4,652)            (2,086)            (1,450)
-----------------------------------------------------------------------------------------------------
                                              $       39,813    $        52,606    $        49,793
=====================================================================================================
Liabilities:
         United States                        $       28,647    $        30,696    $        26,380
         United Kingdom                                  979              7,045              5,170
         Canada                                           65                 70              1,656
         Eliminations                                  (739)            (7,208)            (4,232)
-----------------------------------------------------------------------------------------------------
                                              $       28,952    $        30,603    $        28,974
=====================================================================================================
Net revenues by geographic area:
         United States*                       $       21,157    $        26,386    $        27,208
         Canada*                                       5,114              6,588              5,568
         Europe                                        3,650              4,237              5,986
         Asia                                          4,768              3,011              2,434
         Other                                           124                302                275
-----------------------------------------------------------------------------------------------------
                                              $       34,813    $        40,524    $        41,471
=====================================================================================================
</TABLE>

         * Countries that are considered individually material (more that 10% of
         net revenues) all others less than 10% are grouped by region.




                                       17
<PAGE>   18




NOTE J - OPERATIONS BY GEOGRAPHIC AREA AND INDUSTRY SEGMENT - CON'T

         The Company operates principally in two industries, machine
         vision-based inspection systems and resistance welding controls.
         Operations in machine vision-based inspection systems involve
         development, production and sale of equipment used to monitor or
         control the manufacturing process. These systems are used to supplement
         human inspection or provide quality assurance when production rates
         exceed human capability. Operations in resistance welding controls
         involve development, production, and sale of controls that assure weld
         quality and provide data about the welding process.

         Operating data by business segment is summarized as follows:

                    DECEMBER 31, 1998 AND THE YEAR THEN ENDED

<TABLE>
<CAPTION>
                                                 VISION-BASED       RESISTANCE WELDING
                                              INSPECTION SYSTEMS         CONTROLS              CONSOLIDATED
-----------------------------------------------------------------------------------------------------------------
                                                                      (IN THOUSANDS)
<S>                                             <C>                  <C>                     <C>            
Net revenues                                    $         9,433      $           25,380      $        34,813
Engineering and development                               3,495                   1,649                5,144
Earnings (loss) from operations                         (10,288)                  1,560               (8,728)
Net interest expense                                                                                   2,456
-----------------------------------------------------------------------------------------------------------------
Loss before income taxes                                                                             (11,184)

Increase in property and equipment                          251                     440                  691
Depreciation                                                834                   1,390                2,224
Capitalized software development costs                    1,283                     368                1,651
Amortization of software development costs                1,420                     407                1,827
Write-off of software development costs                   4,231                   1,037                5,268
Write-off of inventory                                    1,402                       0                1,402
Identifiable assets at December 31, 1998                 18,043                  21,770               39,813
=================================================================================================================
</TABLE>

                    DECEMBER 31, 1997 AND THE YEAR THEN ENDED
<TABLE>
<CAPTION>

                                                   VISION-BASED       RESISTANCE WELDING
                                                INSPECTION SYSTEMS         CONTROLS              CONSOLIDATED
-----------------------------------------------------------------------------------------------------------------
                                                                      (IN THOUSANDS)
<S>                                            <C>                   <C>                     <C>  
Net revenues                                   $         15,955      $           24,569      $        40,524
Engineering and development                               1,285                   1,118                2,403
Earnings (loss) from operations                         (1,078)                   3,261                2,183
Net interest expense                                                                                   2,289
-----------------------------------------------------------------------------------------------------------------
Loss before income taxes                                                                                 106

Increase in property and equipment                          128                     751                  879
Depreciation                                                498                   1,191                1,689
Capitalized software development costs                    4,644                     739                5,383
Amortization of software development costs                2,678                     912                3,590
Identifiable assets at December 31, 1997                 28,358                  24,248               52,606
=================================================================================================================
</TABLE>





                                       18
<PAGE>   19

NOTE J - OPERATIONS BY GEOGRAPHIC AREA AND INDUSTRY SEGMENT - CON'T

                    DECEMBER 31, 1996 AND THE YEAR THEN ENDED

<TABLE>
<CAPTION>
                                                    VISION-BASED         RESISTANCE
                                                INSPECTION SYSTEMS    WELDING CONTROLS      CONSOLIDATED
          ------------------------------------------------------------------------------------------------------------

<S>                                              <C>                 <C>                     <C>              
Net revenues                                     $        13,618     $        27,853        $    41,471
Engineering and development                                2,138               1,414              3,552
Loss from operations                                     (5,703)               5,121              (582)
Net interest expense                                                                              1,473
------------------------------------------------------------------------------------------------------------
Loss before income taxes                                                                          2,055

Increase in property and equipment                         2,065                 218              2,283
Depreciation                                               1,558                 449              2,007
Capitalized software development costs                     3,826                 843              4,669
Amortization of software development costs                 1,608                 914              2,522
Identifiable assets at December 31, 1996                  22,423              27,370             49,793
============================================================================================================
</TABLE>


         Interest expense and income taxes have been excluded from the
         calculation of earnings (loss) from operations.

         Identifiable assets allocated to each industry are those assets that
         are used in the Company's operations in each industry.






                                       19
<PAGE>   20


                 SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS

                          MEDAR, INC. AND SUBSIDIARIES

                                 (in thousands)


<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------
              COLUMN A                  COLUMN B               COLUMN C                  COLUMN D          COLUMN E
-----------------------------------------------------------------------------------------------------------------------
                                                               ADDITIONS
-----------------------------------------------------------------------------------------------------------------------
                                       BALANCE AT     CHARGED TO     CHARGED TO         DEDUCTIONS                     
            DESCRIPTION               BEGINNING OF       COSTS          OTHER            DESCRIBE       BALANCE AT END
                                         PERIOD      AND EXPENSES  ACCOUNTS-DESCRIBE                      OF PERIOD
=======================================================================================================================
<S>                                  <C>            <C>            <C>               <C>                <C>
Year ended December 31, 1998:
  Accounts receivable allowance      $       400    $      162                       $     162    (3)   $      400     
  Inventory obsolescence reserve             210         1,530                           1,440    (1)          300
  Deferred tax valuation allowance         4,289         3,883                                    (2)        8,172
                                     ---------------------------------------------------------------------------------
                                     $     4,899    $    5,575                       $   1,602          $    8,872     
======================================================================================================================
Year ended December 31, 1997:
  Accounts receivable allowance      $       400    $      120                       $     120    (3)   $      400     
  Inventory obsolescence reserve             156           622                             568    (1)          210
  Deferred tax valuation allowance         4,344                                            55    (2)        4,289
                                     ---------------------------------------------------------------------------------
                                     $     4,900    $      742                       $     743          $    4,899     
======================================================================================================================
Year ended December 31, 1996:
  Accounts receivable allowance      $       355           120                              75    (3)   $      400     
  Inventory obsolescence reserve             154           458                             456    (1)          156
  Deferred tax valuation allowance         3,896           448                                               4,344
                                     ---------------------------------------------------------------------------------
                                     $     4,405    $    1,026                       $     531          $    4,900     
======================================================================================================================
</TABLE>

         1) Write-off obsolete inventory 
         2) Net change in deferred tax valuation allowance 
         3) Net accounts receivable write-offs


                                       20