<PAGE>   1





                       SECURITIES AND EXCHANGE COMMISSION

                             Washington, DC  20549

                             ______________________

                                   FORM 10-Q

                   QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934


<TABLE>
<S>                                                          <C>
For the quarter ended                                        Commission File
September 30, 1996                                           No. 1-9767
                              ----------------------            
</TABLE>


                   INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.
             (Exact name of registrant as specified in its charter)

<TABLE>
<S>                                                          <C>
Delaware                                                     94-2579751
(State or other                                              (IRS Employer
jurisdiction of                                              identification No.)
incorporation or
organization)

</TABLE>
                 9162 Eton Ave., Chatsworth, California  91311
                    (Address of principal executive offices)

                        Telephone Number:  818-709-1244

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


          Yes   X                                            No
               ---                                             ----
               
The number of shares of Common Stock of the registrant outstanding as of
November 18, 1996 was 5,921,526.


                                      -1-
<PAGE>   2
                   INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.



                               INDEX TO FORM 10-Q

            Three and nine months ended September 30, 1996 and 1995


<TABLE>
<CAPTION>
                                                                                   PAGE                      
                                                                                   ----      
<S>                                                                                <C>              
PART 1.  FINANCIAL INFORMATION

         Item 1.  Financial Statements                                              

                  Consolidated Balance Sheets                                       3

                  Consolidated Statements of Operations                           4-5

                  Consolidated Statements of Cash Flows                             6

                  Notes to Consolidated Financial Statements                        7

         Item 2 - Management's Discussion and Analysis of
         Financial Condition and Results of Operations                             14

PART 2.  OTHER INFORMATION

         Item 1.  Legal Proceedings                                                26

         Item 3.  Defaults upon Senior Securities                                  27

         Item 6.  Exhibits And Reports on Form 8-K                                 27

                 (a)  Exhibits                                                     27

                 (b)  Reports on Form 8-K                                          30  


SIGNATURES                                                                         31

EXHIBIT INDEX                                                                      32
</TABLE>


                                       -2-
<PAGE>   3
PART 1.  FINANCIAL INFORMATION

         ITEM 1.  FINANCIAL STATEMENTS

                   INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.
                           CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>

A S S E T S                                                                     DECEMBER 31,                  September
                                                                                ------------                  ---------
                                                                                        1995                   30, 1996
                                                                                        ----                   --------
                                                                                                            (unaudited)
<S>                                                                             <C>                         <C>  
Current assets:
  Cash and cash equivalents                                                     $   1,511,395               $    38,259
  Short-term investments - unrestricted                                             4,736,727                   753,102
  Short-term investments - restricted                                                       -                 1,800,000
  Accounts receivable-trade, net of allowance for doubtful
      accounts of $87,759 in 1995 and $338,160 in 1996                              3,786,119                 5,860,541
  Inventories                                                                       2,941,021                 4,568,550
  Prepaid expenses and other current assets                                           285,683                   280,530
  Deferred tax asset                                                                  919,489                   919,489
                                                                                -------------               -----------
          Total current assets                                                     14,180,434                14,220,471
 
  Property and equipment, net of accumulated depreciation                             995,044                 1,952,027
  Purchased intangibles                                                               915,649                10,543,756
  Software development costs, net of accumulated amortization                         298,030                 1,085,587
  Long term investments                                                               100,000                         -
  Deferred tax asset                                                                3,594,100                 7,134,568
  Other assets                                                                      2,119,288                 1,997,465
                                                                                -------------               -----------
          Total assets                                                          $  22,202,545               $36,933,874
                                                                                =============               ===========

LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
  Accounts payable                                                              $    810,819                $ 3,173,940
  Notes payable                                                                      185,633                  9,100,000
  Accrued expenses                                                                 1,238,599                  3,906,081
  Deferred income - service contracts                                                710,907                    927,866
  Deferred income - other                                                                  -                    467,438
                                                                                ------------                -----------
          Total current liabilities                                                2,945,958                 17,575,325

  Subordinated note payable                                                                -                  7,000,000
  Note payable - long term                                                           125,000                          -
  Deferred income - service contracts                                                190,045                    201,693
                                                                                ------------                -----------
          Total liabilities                                                        3,261,003                 24,777,018
                                                                                ------------                -----------

Shareholders' equity:
  Common stock, $.01 par value
     Authorized:  15,600,000 shares
     Issued and outstanding:   6,292,408 in 1995
                               6,305,192 in 1996                                      62,924                     63,897
  Additional paid-in capital                                                      34,154,116                 34,764,612
  Treasury stock (96,473 shares in 1995 and 469,413 shares in 1996)                 (453,386)                (2,132,141)
  Unearned compensation                                                              (95,884)                  (120,478)
  Accumulated deficit                                                            (14,726,228)               (20,419,034)
                                                                                ------------                -----------
  Total shareholders' equity                                                      18,941,542                 12,156,856
                                                                                ------------                -----------
  Total liabilities and shareholders' equity                                    $ 22,202,545                $36,933,874
                                                                                ============                ===========

</TABLE>

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

                                      - 3 -
<PAGE>   4
                   INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (unaudited)

<TABLE>
<CAPTION>


                                                                                             For the nine months ended
                                                                                             -------------------------
                                                                                   SEPTEMBER 30,         SEPTEMBER 30,
                                                                                   -------------         -------------
                                                                                            1995                  1996
                                                                                            ----                  ----

<S>                                                                                <C>                   <C>
Sales of IVD imaging systems                                                       $   3,274,247         $   3,957,864
Sales of IVD imaging systems supplies and service                                      4,933,365             6,598,176
Sales of small instruments and supplies                                                2,419,189             3,714,959
                                                                                   ------------          -------------
Net sales                                                                             10,626,801            14,270,999
                                                                                   ------------          -------------

Cost of goods - IVD imaging systems                                                    1,494,079             2,055,767
Cost of goods - IVD imaging system supplies and service                                2,366,818             3,618,566
Cost of goods - small instruments and supplies                                         1,389,672             1,990,301
                                                                                   -------------         -------------
Cost of goods sold                                                                     5,250,569             7,664,634
                                                                                   -------------         -------------
Gross margin                                                                           5,376,232             6,606,365

Marketing and selling                                                                  2,084,717             3,229,417
General and administrative                                                             1,298,258             2,343,546
Research and development, net                                                            882,081             1,249,487
Amortization of intangibles                                                              130,150               446,466
Aborted offering, litigation, and other                                                        -             1,317,415
Acquisition of in-process research and development                                     3,175,645             7,250,000
                                                                                   -------------         -------------
Total operating expenses                                                               7,570,851            15,836,331
                                                                                   -------------         -------------

Operating loss                                                                        (2,194,619)           (9,229,966)

Other income (expense):
  Interest income                                                                        243,769               181,764
  Interest expense                                                                       (40,676)             (248,060)
  Other income                                                                            67,848                62,685
                                                                                   -------------         -------------

Loss before provision (benefit)  for income taxes                                     (1,923,678)           (9,233,577)
Provision (benefit) for income taxes                                                      31,500            (3,540,771)
                                                                                   -------------         -------------

Net loss                                                                           $  (1,955,178)        $  (5,692,806)
                                                                                   =============         =============

Net loss per share                                                                ($         .34)       ($         .90)
                                                                                   =============         =============

Weighted average number of common shares outstanding for the period
                                                                                       5,745,786             6,343,723
                                                                                   =============         =============
</TABLE>


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


                                     - 4 -
<PAGE>   5
               INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS
                                   (unaudited)

<TABLE>
<CAPTION>


                                                                                            For the three months ended
                                                                                            --------------------------
                                                                                   SEPTEMBER 30,         SEPTEMBER 30,
                                                                                   -------------         -------------
                                                                                            1995                  1996
                                                                                            ----                  ----

<S>                                                                                <C>                   <C>
Sales of IVD imaging systems                                                        $  1,123,924          $  1,766,239
Sales of IVD imaging systems supplies and service                                      1,766,124             2,431,882
Sales of small instruments and supplies                                                  853,593             1,345,327
                                                                                    ------------          ------------
Net sales                                                                              3,743,641             5,543,448
                                                                                    ------------          ------------

Cost of goods - IVD imaging systems                                                      536,693               933,958
Cost of goods - IVD imaging system supplies and service                                  799,730             1,522,617
Cost of goods - small instruments and supplies                                           475,658               743,866
                                                                                    ------------          ------------
Cost of goods sold                                                                     1,812,081             3,200,441
                                                                                    ------------          ------------
Gross margin                                                                           1,931,560             2,343,007

Marketing and selling                                                                    730,648             1,534,792
General and administrative                                                               434,619             1,072,227
Research and development , net                                                           218,091               658,263
Amortization of intangibles                                                               46,781               265,591
Aborted offering, litigation, and other                                                        -             1,317,415
Acquisition of in-process research and development                                             -             7,250,000
                                                                                    ------------          ------------
Total operating expenses                                                               1,430,139            12,098,288
                                                                                    ------------          ------------

Operating income (loss)                                                                  501,421            (9,755,281)

Other income (expense):
  Interest income                                                                         68,755                45,124
  Interest expense                                                                        (4,057)             (242,694)
  Other income                                                                               899                30,958
                                                                                    ------------          ------------

Income (loss) before provision (benefit) for income taxes                                567,018            (9,921,893)
Provision (benefit) for income taxes                                                       3,200            (3,671,059)
                                                                                    ------------          ------------

Net income (loss)                                                                   $    563,818          $ (6,250,834)
                                                                                    ============          ============
Net income (loss) per share                                                         $        .09         ($        .98)
                                                                                    ============          ============
Weighted average number of common shares and common
  share equivalents outstanding for the period                                         6,563,612             6,383,543
                                                                                    ============          ============
</TABLE>



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

                                      - 5 -
<PAGE>   6
                   INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (unaudited)

<TABLE>
<CAPTION>


                                                                                             For the nine months ended
                                                                                             -------------------------
                                                                                   SEPTEMBER 30,         SEPTEMBER 30,
                                                                                   -------------         -------------
                                                                                            1995                  1996
                                                                                            ----                  ----

<S>                                                                                <C>                   <C>

Cash flows from operating activities:
   Net loss                                                                         $ (1,955,178)        $ ( 5,692,806)
   Adjustments to reconcile net loss to
      net cash provided (used) by operating activities:
         Depreciation and amortization                                                   403,343             1,165,879
         Common stock compensation                                                        64,276               100,994
         Write off of acquired in-process research and development                     3,175,645             7,250,000
         Deferred tax benefit                                                                  -            (3,540,468)
   Changes in assets and liabilities:
      Accounts receivable - trade and other                                              (47,434)             (976,113)
      Service contracts, net                                                              28,619               238,114
      Inventories                                                                       (731,390)           (1,097,433)
      Prepaid expenses and other current assets                                           16,701                55,867
      Other assets                                                                      (255,706)             (185,883)
      Accounts payable                                                                      (373)            1,518,763
      Accrued expenses                                                                   (90,850)             (287,485)
      Deferred income - other                                                                 -                192,421
                                                                                    ------------         -------------
Net cash provided (used) by operating activities                                         607,653            (1,258,150)
                                                                                    ------------         -------------

Cash flows from investing activities:
    Acquisition of property and equipment                                               (432,087)             (880,744)
    Acquisition of business or product line                                             (850,000)          (10,134,044)
    Software development costs                                                          (176,033)             (558,674)
    Maturities of short term investments                                               2,500,000             3,168,000
    Purchases of short term investments                                               (3,841,708)             (884,375)
                                                                                    ------------         -------------
Net cash provided (used) in investing activities                                      (2,799,828)           (9,289,837)
                                                                                    ------------         -------------

Cash flows from financing activities:
    Issuance of common stock for cash                                                  1,625,817               285,474
    Proceeds from notes payable                                                          166,660             9,100,000
    Principal payments on notes payable                                                 (402,829)             (310,623)
                                                                                    ------------         -------------
Net cash provided by financing activities                                              1,389,648             9,074,851
                                                                                    ------------         -------------

Net decrease in cash and cash equivalents                                               (802,527)           (1,473,136)
Cash and cash equivalents at beginning of period                                       2,573,384             1,511,395
Adjustment to cash to reflect change in StatSpin Technologies' fiscal year               114,866                    --
                                                                                    ------------         -------------
Cash and cash equivalents at end of period                                          $  1,885,723         $      38,259
                                                                                    ============         =============

Supplemental schedule of non-cash financing activities:
Issuance of common stock for services                                               $     22,473         $     125,426
Issuance of warrants and subordinated note for asset purchase                            153,000             7,927,000
Issuance of stock for exercise of call option to purchase LDA                          2,977,344                    --
Issuance (repurchase) of warrants in connection with development agreements            1,105,000             (273,207)
Accrual for treasury stock purchase                                                           --             2,132,141
</TABLE>


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

                                     - 6 -
<PAGE>   7
NOTES TO FINANCIAL STATEMENTS

1. Formation and Business of the Company.

   International Remote Imaging Systems, Inc. ("IRIS" or "the Company") was
incorporated in California in 1979 and reincorporated during 1987 in Delaware.
The Company engages in the business of developing, manufacturing and selling in
vitro diagnostic ("IVD") imaging systems, and other laboratory instruments based
on proprietary technology.

   On February 1, 1996, a newly formed subsidiary of the Company completed its
merger with StatSpin, Inc. ("StatSpin"), which became a wholly owned subsidiary
of the Company. StatSpin manufactures special purpose centrifuges and other
small instruments widely used in clinical, veterinary, and physicians' offices
and research laboratories. StatSpin sells its products primarily through leading
distributors to the physician office and veterinary laboratory markets. The
Company issued approximately 340,000 shares of common stock for all of the
outstanding common stock and appreciation rights of StatSpin and assumed options
and warrants to purchase an additional 126,000 shares of the Company's common
stock. This represented an exchange ratio of 4.095 shares of the Company's
common stock for each common share and stock appreciation right of StatSpin.
This transaction was accounted for as a pooling-of-interests. Accordingly, the
consolidated financial statements have been retroactively restated for all
periods presented to include the financial position, results of operations and
cash flows of StatSpin.

   On July 31, 1996, the Company, through a wholly owned subsidiary, PSI
Acquisition Corp., acquired the IVD imaging business of Perceptive Scientific
Instruments, Inc. (PSI) for $9.1 million in cash, issuance of a $7.0 million
8.25% subordinated debenture and a five year warrant to purchase 875,000 shares
of IRIS common stock at $8.00 per share. The cash portion of the purchase price
was paid with funds obtained from a bank under a $7.8 million term loan and a
new $1.5 million revolving line of credit. The Company subsequently changed the
name of PSI Acquisition Corp. to Perceptive Scientific Instruments, Inc.

   PSI, a privately held company based in Houston, is a recognized leader in the
development and supply of IVD imaging systems for biological, clinical and
research applications. PSI's primary business is providing cytogenetic analysis
instrumentation and related services through worldwide sales of its proprietary
PowerGene(TM) product line. The PowerGene product line, based in part on image
processing technology from NASA, is used in various procedures for chromosome
analysis, including karyotyping, DNA probe analysis via fluorescent in-situ
hybridization methods and comparative genomic hybridization analysis. The
PowerGene system is marketed nationally from PSI's Houston headquarters and
internationally through its U.K. subsidiary.

   The acquisition has been accounted for using the purchase method of
accounting, and, accordingly, the purchase price has been preliminary allocated
to the assets purchased and the liabilities assumed based upon their estimated
fair value at the date of acquisition. The excess of the purchase price over the
fair values of the net assets acquired was $16.8 million, of which $7.3 million
has been expensed as in process research and development. The remainder has been
allocated to acquired technology and know how and the international distribution
network which is being amortized over 6 years and 25 years, respectively. The
net purchase price was allocated as follows:

<TABLE>

<S>                                          <C>
   Working capital other than cash           ($   359,513)
   Property, plant, and equipment                 513,492
   Other assets                                   338,573
   Intangibles                                  9,549,543
   In-process research & development            7,250,000
                                             ------------
     Total                                   $ 17,292,095
                                             ============
</TABLE>


   The operating results of the acquired business of PSI is included in the
Consolidated Statement of Operation from the date of acquisition, August 1,
1996. The following unaudited summary, prepared on a pro forma basis, combines
the consolidated results of operations as if the Company and PSI had been

                                     - 7 -
<PAGE>   8
acquired as of the beginning of the period presented, after including the impact
of certain adjustments, such as amortization of intangibles and increased
interest on the acquisition debt.

<TABLE>
<CAPTION>

                                                  Nine Months Ended    Nine Months Ended
                                                  September 30, 1995   September 30, 1996
                                                  -----------------    -----------------

<S>                                                 <C>                 <C>
Sales                                               $ 14,606,262        $ 17,945,861

Net Loss                                           ($  3,915,479)      ($  6,990,570)

Net Loss Per Share                                 ($        .69)      ($       1.10)
</TABLE>

     The unaudited pro forma information is provided for informational purposes
only. This information is based on historical information and is not necessarily
indicative of what the actual consolidated results of operations might have been
if the acquisition had been effective at the beginning of 1995, nor is it
indicative of future results of operations of the combined entities.

2.   Summary of Significant Accounting Policies.

Basis of Presentation of Unaudited Interim Financial Statements:

   In the opinion of the Company, the accompanying unaudited consolidated
financial statements contain all normal recurring adjustments necessary to
present fairly the financial position of the Company and subsidiaries as of
September 30, 1996 and the results of their operations and cash flows for the
three and nine months ended September 30, 1996 and 1995. It is suggested that
these financial statements be read in conjunction with the financial statements
and notes included in the latest IRIS annual report on Form 10-K. Interim
results are not necessarily indicative of results for a full year.


     In September 1996, the Company filed a registration statement with the
Securities and Exchange Commission for an underwritten public offering by the
Company of 3,000,000 shares of its Common Stock. Based on the price of the
Common Stock at that time, the public offering was expected to generate net
proceeds of $20 million or more. The net proceeds were to be used primarily to
purchase the Corange Securities (Note 7) and to reduce outstanding indebtedness
incurred to finance the PSI acquisition. The Company has elected not to pursue
the public offering at this time and, alternatively, plans to pursue a
significantly smaller financing transaction to fund the purchase price for the
Corange Securities and part or all of the remaining principal payments under the
Term Loan and the Credit Facility (Note 6). The Company is not presently in
negotiations for such financing and there can be no assurance that the Company
can secure adequate financing on favorable terms, if at all. If the Company is
unable to obtain such financing or the Bank elects to accelerate the maturity of
the Term Loan or Credit Facility in the interim, the Company will be unable to
make the required payments under the Term Loan or Credit Facility or to purchase
the Corange Securities. Under those circumstances, in order to continue
operations the Company would have to pursue an arrangement with its creditors to
reschedule the Company's debts, either voluntarily or involuntarily.

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 amount of revenues and expenses during the reporting periods.
Actual results could differ from those estimates.

                                      - 8 -
<PAGE>   9
Principles of Consolidation:

   The consolidated financial statements include the accounts of IRIS, 
StatSpin, and Perceptive Scientific Instruments Inc. wholly-owned subsidiaries.
All significant intercompany accounts and transactions have been eliminated in
the consolidated financial statements.

3. Restatement of Prior Periods' Results of Operations

   The Company recently completed a review of its revenue recognition policy and
procedures. As a result of the review, the Company has restated its results of
operations for certain prior periods described below to appropriately reflect
the Company's revenue in accordance with its refined revenue recognition policy.
Such restatements pertain to the amount and timing of revenues recognized under
an introductory sales program and the timing of revenues recognized for
shipments made "FOB destination" or under contingent sales terms. The Company
has established procedures to assure appropriate revenue recognition in the
future.

   The Company plans to amend its Annual Report on Form 10-K for the year ended
December 31, 1995 and its Quarterly Reports on Form 10-Q for the three month
periods ended March 31, 1996 and June 30, 1996 to reflect the adjustments. The
table below sets forth selected operating data and accumulated deficit for the 
relevant periods on both a restated basis and as previously reported. (The
previously reported data in the table below has been restated to retroactively
reflect the pooling-of-interests transaction described above under "Formation
and Business of the Company").

<TABLE>
<CAPTION>


                                                       Year Ended               Three Months Ended         Three Months Ended
                                                December 31, 1995                   March 31, 1996              June 30, 1996
                                                -----------------               ------------------         ------------------

                                           As Reported     As Restated     As Reported     As Restated   As Reported    As Restated
                                           -----------     -----------     -----------     -----------   -----------    -----------
                                                                   (in thousands, except per share amounts)
<S>                                        <C>             <C>             <C>             <C>           <C>           <C>




Net sales                                 $15,022          $14,392         $ 4,344          $3,904        $4,785        $4,824
Cost of sales                               7,361            7,127           2,161           2,041         2,334         2,423
                                          -------          -------         -------          ------        ------        ------
     Gross margin                           7,661            7,265           2,183           1,863         2,451         2,401
Operating expenses                          9,210            9,163           1,783           1,719         1,971         2,019
                                          -------          -------         -------          ------        ------        ------
     Operating income (loss)               (1,549)          (1,898)            400             144           480           382
Other income                                  378              378              82              82            80            81
                                          -------          -------         -------          ------        ------        ------
     Income (loss) before taxes            (1,171)          (1,520)            482             226           560           463
Tax provision (benefit)                    (3,528)          (3,646)             40              19           135           112
                                          -------          -------         -------          ------        ------        ------
     Net income                           $ 2,357          $ 2,126         $   442          $  207        $  425        $  351
                                          =======          =======         ========         ======        ======        ======

Net income per share                      $  0.37          $  0.33         $  0.07          $ 0.03        $ 0.06        $ 0.05

Accumulated deficit                       $14,496          $14,727         $14,054         $14,520        $13,629       $14,169
</TABLE>


4.   Inventories

     Inventories are carried at the lower of first-in, first-out cost or market
     and are composed of the following:

<TABLE>
<CAPTION>

                                                                    December 31, 1995         September 30, 1996
                                                                    -----------------         ------------------

<S>                                                                 <C>                       <C>
                    Finished goods                                      $     422,115                 $  172,506
                    Work-in-process                                           276,115                    628,580
                    Raw materials, parts and
                       sub-assemblies                                       2,242,791                  3,767,464
                                                                        -------------                -----------
                                                                        $   2,941,021                $ 4,568,550
                                                                        =============                ===========
</TABLE>


                                     - 9 -
<PAGE>   10
5.   Purchased Intangibles

   Purchased intangibles, at cost, consist of the following:

<TABLE>
<CAPTION>

                                                                    December 31, 1995         September 30, 1996
                                                                    -----------------         ------------------

<S>                                                                 <C>                       <C>
     

   Goodwill                                                         $       994,799            $ 1,323,799
   International distribution channel                                             -              5,825,221
   Acquired technology and know how                                               -              3,724,322
                                                                    ---------------            -----------
                                                                            994,799             10,873,342
   Less accumulated amortization                                             79,150                329,586
                                                                    ---------------            -----------
   Total                                                            $       915,649            $10,543,756
                                                                    ===============            ===========
</TABLE>

6. Notes Payable

   On July 31, 1996, the Company completed the acquisition of PSI for
approximately $16.1 million in cash plus a five-year warrant to purchase 875,000
shares of the Company's Common Stock at $8.00 per share. The Company financed
the cash portion of the purchase price with (i) a $7.0 million principal amount
subordinated note issued to PSI's parent company (the "Subordinated Note"), (ii)
a $7.8 million term loan from City National Bank (the "Bank") (the "Term Loan")
and (iii) $1.3 million loan drawn under a new revolving line of credit with the
Bank (the "Credit Facility").

   The Subordinated Note bears interest at a fixed rate of 8.5% per annum
payable in quarterly installments beginning November 1, 1996. The entire
principal amount is due on or before July 31, 2001. The Company may prepay the
Subordinated Note at any time without premium or penalty. Under the terms of the
Subordinated Note, upon the issuance by the Company of equity securities
generating net proceeds in excess of $14.5 million, the Company shall apply
fifty percent of the excess to the prepayment of the Subordinated Note. The
payment of principal and interest on the Subordinated Note is subordinated in
right of payment, to the extent and in the manner provided therein, to the prior
payment in full of all indebtedness to the Bank.

   The Term Loan is collateralized by a first priority lien on all the assets of
the Company and bears interest monthly at the Bank's prime rate (8.25% as of
October 31, 1996) plus 0.25% through December 1, 1996 and 1.0% thereafter. The
Company is required to repay $1.8 million of principal on or before December 1,
1996, $100,000 of principal each month thereafter commencing January 1, 1997 and
the balance of $4.7 million on or before January 15, 1998. The Company may
prepay the Term Loan at any time without premium or penalty. In November 1996,
the Company prepaid the December 1, 1996 principal payment of $1.8 million
through the liquidation of certain short-term investments previously pledged to
the Bank and thereby reduced the outstanding principal balance of the Term Loan
to $6.0 million. The Term Loan imposes substantially the same operating and
financial covenants on the Company as the Credit Facility (discussed below).

   The Company established the Credit Facility in July 1996. Under the terms of
the Credit Facility, the Company can borrow and reborrow up to a maximum
principal amount of $1.5 million at a variable interest rate equal to the Bank's
prime rate (8.25% as of October 31, 1996). The Company had approximately
$200,000 of unused credit available under the Credit Facility at October 31,
1996. The Credit Facility matures June 1, 1997 and is collateralized by a first
priority lien on all of the assets of the Company. The Credit Facility imposes
certain operating and financial covenants on the Company, including, among other
things, (i) financial covenants regarding minimum tangible net worth, a minimum
fixed charge coverage ratio, a maximum ratio of senior liabilities to tangible
net worth and a minimum ratio of current assets to current liabilities, (ii)
restrictions on the disposition of assets other than in the ordinary course of
business, (iii) covenants to maintain the Company's assets and appropriate
insurance coverage and (iv) covenants to deliver from time to time certain
financial and other information.

   As of September 30, 1996, the Company was no longer in compliance with the
financial covenants of the Term Loan or the Credit Facility. The failure to
comply with such covenants constitutes an event of default under the Term Loan
and the Credit Facility. The Company is requesting that the Bank waive the 

                                     - 10 -
<PAGE>   11
event of default. If the Bank declines to grant the waiver, the Bank may 
exercise its rights under the applicable agreements which include, among other 
things, the right to declare the Term Loan and the Credit Facility immediately 
due and payable and the right to sell, lease or otherwise dispose of the 
Company's assets in satisfaction of the debt. An election by the Bank to 
accelerate either the Term Loan or the Credit Facility would constitute an event
of default under the Subordinated Note and entitle the holder thereof to 
similarly declare the Subordinated Note immediately due and payable. A decision
by the Bank to exercise its rights under the Term Loan or Credit Facility would
have a material adverse effect on the Company.

7. Research and Development Contracts.

   In recent years, the Company has, in addition to its internally-funded
projects, entered into four significant externally-funded projects, two joint
development projects with strategic partners and two projects with
Company-sponsored research and development entities. From 1994 to 1996, the
Company collaborated with Boehringer Mannheim Corporation ("BMC"), an
Indianapolis-based manufacturer of diagnostic products, and Boehringer Mannheim
GmbH ("BMG"), BMC's German affiliate and a world leader in clinical chemistry,
in the development of (i) the CHEMSTRIP(R)/IRIStrip(TM) urine test strips and a
related urine test strip reader for The Yellow IRIS(R) and (ii) the Model 
900UDx(R), the latest model in The Yellow IRIS(R) family. The Company entered 
into a project in October 1992 with LDA, a Company-sponsored research and 
development entity, for development of The White IRIS(R) leukocyte differential
analyzer. Corange International Limited ("Corange"), an affiliate of BMC and 
BMG, provided substantial funding to LDA. In June 1995, the Company acquired 
LDA for approximately 498,000 shares of Common Stock. As a result of the LDA
acquisition, the Company incurred a non-recurring, non-cash charge of $3.2
million against earnings for the nine months ended September 30, 1995 for the
acquisition of in-process research and development since The White IRIS(R) had 
not yet received FDA clearance. The White IRIS(R) received FDA clearance in May
1996, and the Company expects to begin marketing The White IRIS(R) in 1997. The
Company entered into a similar project in September 1995 with Poly U/A Systems,
Inc. ("Poly"), another Company-sponsored research and development entity, for
development of several new products to enhance automated urinalysis ("the Poly
Products"). The program with Poly is currently ongoing.

   BMC and BMG recently agreed to several amendments to their contracts with the
Company, strengthening their ties in the supply and distribution of
CHEMSTRIP(R)/IRIStrip(TM) urine test strips while withdrawing from longer term 
mutual commitments in the areas of hematology and urine microscopy. Among other
things, BMC agreed to supply the Company with CHEMSTRIP(R)/IRIStrip(TM) urine 
test strips while withdrawing from longer term mutual commitments in the areas 
of hematology and urine microscopy. Among other things, BMC agreed to supply 
the Company with CHEMSTRIP(R)/IRIStrips(TM) urine test strips at a reduced price
and extended the term of the underlying supply agreement from 1999 until six 
years after the last date of sale of any model of The Yellow IRIS(R) containing
the urine test strip reader supplied by BMC. In return, the Company relieved 
BMC of its obligation to purchase a minimum number of Model 900UDx(TM) systems 
and to supply certain technology and components.

   The Company and BMG also reaffirmed their mutual commitment to manufacture
and market the Model 900UDx(TM) and extended the term of the underlying
agreement from 2000 until six years after the last date of sale of any Model
900UDx(TM). The Company will continue to manufacture the Model 900UDx(TM) with
BMG providing certain components on a OEM basis at cost. The Model 900UDx will
be marketed exclusively by the Company in the United States, Canada and Taiwan,
exclusively by BMG in Germany and Italy and by both companies in other markets.

   As compensation to the Company for potentially missed business opportunities
in hematology, Corange sold to the Company the 469,413 shares of Common Stock
and the warrant to purchase 250,000 shares of Common Stock previously acquired
by Corange from the Company in connection with various joint development
projects (the "Corange Securities") at their original aggregate purchase price
of $2.1 million, or $4.54 per share of Common Stock. The purchase price for the
Corange Securities is due on or before December 31, 1996.

                                     - 11 -
<PAGE>   12
   Revenues are recognized under research and development contracts in amounts
equivalent to reimbursable research and development costs incurred on the
related project plus, where contractually provided for, an amount to cover
general and administrative costs of the project.

   Development contract revenues and costs connected with the development
agreements entered into with LDA, Poly and BMG as described above were as
follows:

<TABLE>
<CAPTION>

                                       Three Months Ended September 30,              Nine Months Ended September 30,
                                       --------------------------------              -------------------------------

                                             1995                  1996                  1995                 1996
                                             ----                  ----                  ----                 ----

<S>                                      <C>                   <C>                   <C>                <C>
Revenues                                 $156,569              $383,022              $794,719           $1,327,271
Costs                                     122,997               336,431               883,710            1,300,568
                                         --------              --------              --------           ----------
Net costs                                $ 33,572              $ 46,591              $ 88,991           $   26,703
                                         ========              ========              ========           ===========
</TABLE>


8.   Capital Stock.

Repurchase of Common Stock and Warrant:

     As described above, Corange sold to the company the 469,413 shares of
Common Stock and the warrant to purchase 250,000 shares of common stock
previously acquired by Corange from the Company in connection with various joint
development projects (the "Corange Securities") at their original aggregate
purchase price of $2.1 million or $4.54 per share of Common Stock. The purchase
price for the Corange securities is due on or before December 31, 1996, and is
included in accrued liabilities as of September 30, 1996. The unamortized cost
of $273,207 related to the repurchased warrant has been offset against
additional paid in capital

Stock Issuances:

   During the periods ended September 30, 1996 and 1995, the Company issued
32,622 and 17,737 shares of common stock, respectively, in exchange for $250,851
and $36,693, respectively, in cash and services under the Employee Stock
Purchase Plan.

   In addition during the nine month period ended September 30, 1996, the
Company issued 42,833 shares of stock on exercise of stock options granted to
employees, former employees and consultants and 21,791 shares of common stock on
exercise of options granted in connection with the acquisition of StatSpin
Technologies, Inc.

Stock Options:

   In connection with the merger with StatSpin, each outstanding option and
warrant of StatSpin was converted into an option to purchase the Company's
common stock at a ratio of 4.095 shares of the Company's common stock for each
share of StatSpin common stock covered by such option or warrant. The exercise
price per share for the StatSpin options and warrants were adjusted by dividing
the initial exercise price by 4.095. At September 30, 1996, options to purchase
102,956 shares of common stock were issued and outstanding relating to the
StatSpin merger. These outstanding options expire by November 14, 2000. The
exercise price of these options ranges from $3.66 to $4.58 per share and in
aggregate $377,825. 

   For the nine months ended September 30, 1996, 357,800 shares of common stock
were granted under the 1994 Stock Option Plan. Options for 42,833 shares were
exercised and options for 12,567 were canceled. At September 30, 1996, options
to purchase 916,201 shares of common stock were issued and outstanding under the
Company's stock option plans. The outstanding options expire by the end of 2006.
The exercise price for these options ranges from $1.10 to $8.50 per share and in
aggregate $5.0 million. At September 30, 1996 there were no shares available for
the granting of future options.

Warrants:

   At September 30, 1996, there were warrants outstanding and exercisable to
purchase 75,000 shares at $8.125 per share until March 30, 1998, 512,000 shares
at $6.50 per share until September 29, 1998, 150,000 shares at $7.80 per share
until September 28, 2000, and 875,000 shares at $8.00 per share until July 31,
2000.

                                     - 12 -
<PAGE>   13
Preferred Stock:

   The Company is authorized to issue 3,000,000 shares of preferred stock in one
or more series with such terms as may be designated by the Board of Directors.
There is no preferred stock outstanding.

Treasury Stock

   In September 1996 the Company retired 84,462 Common Shares held in treasury
with a cost base of $377,980.

   9.    Earnings Per Share.

   The computations of share amounts for the nine month period ended September
30, 1995 and the three and nine month periods ended September 30, 1996 are based
on the weighted average number of shares outstanding for the period. Common
shares equivalents were not included in the computation as their inclusion would
be antidilutive.

   The computation for the three months ended September 30, 1995 is based on the
weighted average number of shares and common share equivalents outstanding for
the period.

                                     - 13 -
<PAGE>   14
         ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
                 AND RESULTS OF OPERATIONS

OVERVIEW

         The Company generates revenues from the initial sales of in vitro
diagnostic ("IVD") imaging systems based on its patented and proprietary
"Automated Intelligent Microscopy" technology, which in turn generate follow-on
sales of supplies and service necessary for their operation.  The Company also
generates revenues from sales of ancillary lines of small laboratory
instruments and supplies.

         Until recently, the Company generated most of its revenues from sales
of two models of The Yellow IRIS(R) urinalysis workstation and related supplies
and services.  These two models differ mainly by their speed and price.  In
1996, the Company introduced a third model of The Yellow IRIS(R) and two new
lines of other IVD imaging systems.  The Model 900UDx(TM) urine pathology
system, the latest in The Yellow IRIS(R) family, is a higher capacity automated
urinalysis workstation designed especially for the high-volume testing
requirements of large hospitals and reference laboratories.  The Company
received FDA clearance to market the Model 900UDx(TM) in March 1996 and began
sales in May.  The Company also received FDA clearance to market The White
IRIS(R) leukocyte differential analyzer in May 1996 and expects to start sales
of this system in 1997.  Finally, the Company began selling the PowerGene(TM)
family of genetic analyzers in August 1996 after completing the acquisition
(the "PSI Acquisition") of the IVD imaging business of Perceptive Scientific
Instruments, Inc. ("PSI").

         The Company invests in research and product development for new
products and enhancements to existing products.  The following table summarizes
total product technology expenditures for the periods indicated:

<TABLE>
<CAPTION>
                                                                                              Nine Months Ended
                                                    Year Ended December 31,                     September 30,  
                                           --------------------------------------            -------------------      
                                             1993            1994            1995              1995         1996
                                           ------          ------         -------            ------      -------
                                                                       (in thousands)

 <S>                                       <C>             <C>             <C>               <C>          <C>
 Research and development       
 expense, net  . . . . . . . . .           $  879          $  663          $1,220            $  882       $1,249
 Capitalized software                  
 development costs . . . . . . .               81              25             299               176          559       
 Reimbursed costs under research
 and development contracts . . .              539           1,111             843               795        1,327
                                           ------          ------          ------            ------       ------
     Total product technology
       expenditures  . . . . . .           $1,499          $1,799          $2,362            $1,853       $3,135
                                           ======          ======          ======            ======       ======   
                                           

</TABLE>
         The Company has in the past partially funded its research and
development programs through (i) grants from the National Institutes of Health
obtained through the federal government's Small Business Innovative Research
program, (ii) joint development programs with strategic partners and (iii)
Company-sponsored research and development entities.





                                     - 14 -
<PAGE>   15
         In recent years, the Company has, in addition to its internally-funded
projects, entered into four significant externally-funded projects, two joint
development projects with strategic partners and two projects with
Company-sponsored research and development entities.  From 1994 to 1996, the
Company collaborated with Boehringer Mannheim Corporation ("BMC"), an
Indianapolis-based manufacturer of diagnostic products, and Boehringer Mannheim
GmbH ("BMG"), BMC's German affiliate and a world leader in clinical chemistry,
in the development of (i) the CHEMSTRIP(R)/IRIStrip(TM) urine test strips and a
related urine test strip reader for The Yellow IRIS(R) and (ii) the Model
900UDx(R), the latest model in The Yellow IRIS(R) family.  The Company entered
into a project in October 1992 with LDA, a Company-sponsored research and
development entity, for development of The White IRIS(R) leukocyte differential
analyzer.  Corange International Limited ("Corange"), an affiliate of BMC and
BMG, provided substantial funding to LDA.  In June 1995, the Company acquired
LDA for approximately 498,000 shares of Common Stock.  As a result of the LDA
acquisition, the Company incurred a non-recurring, non-cash charge of $3.2
million against earnings for the nine months ended September 30, 1995 for the
acquisition of in-process research and development since The White IRIS(R) had
not yet received FDA clearance.  The White IRIS(R) received FDA clearance in
May 1996, and the Company expects to begin marketing The White IRIS(R) in 1997.
The Company entered into a similar project in September 1995 with Poly U/A
Systems, Inc. ("Poly"), another Company-sponsored research and development
entity, for development of several new products to enhance automated urinalysis
("the Poly Products").  The program with Poly is currently ongoing.  See "--
Liquidity and Capital Resources."

         BMC and BMG recently agreed to several amendments to their contracts
with the Company, strengthening their ties in the supply and distribution of
CHEMSTRIP(R)/IRIStrip(TM) urine test strips while withdrawing from longer term
mutual commitments in the areas of hematology and urine microscopy.  Among
other things, BMC agreed to supply the Company with CHEMSTRIP(R)/IRIStrip(TM)
urine test strips at a reduced price and extended the term of the underlying
supply agreement from 1999 until six years after the last date of sale of any
model of The Yellow IRIS(R) containing the urine test strip reader supplied by
BMC.  In return, the Company relieved BMC of its obligation to purchase a
minimum number of Model 900UDx(TM) systems and to supply certain technology and
components.

         The Company and BMG also reaffirmed their mutual commitment to
manufacture and market the Model 900UDx(TM) and extended the term of the
underlying agreement from 2000 until six years after the last date of sale of
any Model 900UDx(TM).  The Company will continue to manufacture the Model
900UDx(TM) with BMG providing certain components on an OEM basis at cost.  The
Model 900UDx(TM) will be marketed exclusively by the Company in the United 
States, Canada and Taiwan, exclusively by BMG in Germany and Italy and by both
companies in other markets.

         As compensation to the Company for potentially missed business
opportunities in hematology, Corange sold to the Company the 469,413 shares of
Common Stock and the warrant to purchase 250,000 shares of Common Stock
previously acquired by Corange from the Company in connection with various
joint development projects (the "Corange Securities") at their original
aggregate purchase price of $2.1 million, or $4.54 per share of Common Stock.
The purchase price for the Corange Securities is due on or before December 31,
1996.

RECENT DEVELOPMENTS

         Early in the fourth quarter, the Company implemented a restructuring
that reduced its workforce by approximately eighteen percent.  The
restructuring is aimed primarily at restoring profitability following the
Company's operating loss in the third quarter of this year.  Most of the





                                     - 15 -
<PAGE>   16
reductions in the workforce occurred at the Company's headquarters facility in
Chatsworth, California.  The restructuring is expected to reduce current
expenditure levels by more than $1.9 million annually, after a one-time charge
to earnings of approximately $300,000 which the Company expects to incur during
the fourth quarter of 1996 for severance and other incremental costs associated
with the restructuring.

RESTATEMENT OF PRIOR PERIODS' RESULTS OF OPERATIONS

         The Company recently completed a review of its revenue recognition
policy and procedures.  As a result of the review, the Company has restated its
results of operations for certain prior periods described below to
appropriately reflect the Company's revenue in accordance with its refined
revenue recognition policy.  Such restatements pertain to the amount and timing
of revenues recognized under an introductory sales program and the timing of
revenues recognized for shipments made "FOB destination" or under contingent
sales terms.  The Company has established procedures to assure appropriate
revenue recognition in the future.

         The Company plans to amend its Annual Report on Form 10-K for the year
ended December 31, 1995 and its Quarterly Reports on Form 10-Q for the three
month periods ended March 31, 1996 and June 30, 1996 to reflect the
adjustments.  The table below sets forth selected operating data for the
relevant periods on both a restated basis and as previously reported.  (The
previously reported operating data in the table below has been restated to
retroactively reflect the pooling-of-interests transaction described below
under "Results of Operations.")

<TABLE>
<CAPTION>
                                                Year Ended               Three Months Ended            Three Months Ended
                                                ----------               ------------------            ------------------
                                            December 31, 1995             March 31, 1996                 June 30, 1996
                                            -----------------             --------------                 -------------
                                         As Reported   As Restated   As Reported  As Restated    As Reported     As Restated    
                                         -----------   -----------   -----------  -----------    -----------     ------------
                                                                (in thousands, except per share amounts)

 <S>                                       <C>           <C>           <C>            <C>            <C>             <C>
 Net sales                                 $15,022       $14,392       $ 4,344        $ 3,904        $ 4,785         $ 4,824

 Cost of sales                               7,361         7,127         2,161          2,041          2,334           2,423
                                           -------       -------        ------         ------         ------          ------
   Gross margin                              7,661         7,265         2,183          1,863          2,451           2,401
 Operating expenses                          9,210         9,163         1,783          1,719          1,971           2,019
                                           --------       ------        ------         ------         ------          ------
   Operating income (loss)                  (1,549)       (1,898)          400            144            480             382
 Other income                                  378           378            82             82             80              81
                                               ---           ---            --             --             --              --
   Income (loss) before taxes               (1,171)       (1,520)          482            226            560             463

 Tax provision (benefit)                    (3,528)       (3,646)           40             19            135             112
                                           -------        ------           ---            ---           ----            ----
   Net income                              $ 2,357       $ 2,126         $ 442          $ 207          $ 425           $ 351
                                           =======       =======         =====          =====          =====           =====
   Net income per share                    $  0.37       $  0.33        $ 0.07          $0.03          $0.06           $0.05

</TABLE>
RESULTS OF OPERATIONS

         The consolidated financial statements of the Company contained in this
report have been retroactively restated for all periods presented to include
the financial position, results of operations and cash flows of StatSpin, Inc.
(formerly known as StatSpin Technologies) ("StatSpin") in accordance with the
pooling-of-interests method of accounting.  The consolidated financial
statements also reflect the consummation of the PSI Acquisition on July 31,
1996 which was accounted for using the purchase method of accounting.
Accordingly, the consolidated statements of operations for the three and nine
month periods ended September 30, 1996 include two months of operation of the
business acquired from PSI.  See "-- PSI and Other Recent Acquisitions."





                                      -16-
<PAGE>   17
    Comparison of Nine Months Ended September 30, 1996 to Nine Months Ended
    September 30, 1995

         Net sales for the nine months ended September 30, 1996 increased to
$14.3 million from $10.6 million, an increase of $3.7 million or 34% over the
comparable period of the prior year.  Sales of IVD imaging systems increased to
$4.0 million from $3.3 million, an increase of $684,000 or 21% over the
comparable period.  The increase was due to the addition of the PowerGene(TM)
family of genetic analyzers to the Company's product line in August 1996,
partially offset by a decline in sales of The Yellow IRIS(R) urinalysis
workstation in the third quarter of 1996.  The Company believes that the
ongoing consolidation in the healthcare industry may be adversely affecting
sales of The Yellow IRIS(R) as some hospitals and reference laboratories appear
to be postponing large capital investment decisions due to the resulting
uncertainty.  The Company also believes that there is a growing trend among
potential customers for The Yellow IRIS(R) toward leasing these systems on a
cost-per-test basis rather than purchasing them.  The effect of this trend is
to spread the revenue from system placements over several years.  The Company
believes that sales of the PowerGene(TM) analyzer have not been similarly
affected because that instrument appeals to a different segment of the
healthcare market than The Yellow IRIS(R) system.

         Sales of IVD imaging system supplies and service increased to $6.6
million from $4.9 million, an increase of $1.7 million or 34% over the
comparable period, due to the larger installed base of IVD imaging systems and
the ongoing conversion of the installed base to the new
CHEMSTRIP(R)/IRIStrip(TM) urine test strips.  As of September 30, 1996, the
Company had converted approximately 85% of the installed base of The Yellow
IRIS(R) systems from test strips marketed by various distributors to the new
test strips marketed exclusively by the Company.  Sales of small instruments
and supplies increased to $3.7 million from $2.4 million, an increase of $1.3
million or 54%, over the comparable period.  The increase reflects generally
higher sales levels of the StatSpin products, as well as the addition of the
Cen-Slide(R) urine sediment analysis system in March 1996 and the product line
acquired from Biovation, Inc. ("Biovation") in March 1995.  See "-- PSI and
Other Recent Acquisitions."

         Cost of goods for IVD imaging systems increased as a percentage of
sales of IVD imaging systems to 52% for the nine months ended September 30,
1996 from 46% for the comparable period due primarily to the addition of the
Model 900UDx(TM) to the product line and amortization of certain fixed costs
for IVD imaging systems over a smaller volume of system sales.  These factors
were partially offset by the addition of the higher-margin PowerGene(TM) family
of genetic analyzers to the Company's product line in August 1996.  Although
the Model 900UDx(TM) currently has a lower gross margin than other models of
The Yellow IRIS(R), the Company expects the Model 900UDx(TM) to generate higher
sales of supplies in future periods than its other models.  Cost of goods for
IVD imaging system supplies and service increased as a percentage of sales of
such products to 55% for the nine months ended September 30, 1996 from 48% for
the comparable period primarily due to relatively lower gross margins on sales
of CHEMSTRIP(R)/IRIStrip(TM) urine test strips which accounted for a greater
proportion of sales of system supplies, as well as a decline in gross margins
on certain other IVD imaging system supplies and service.  Cost of goods for
small instruments and supplies decreased as a percentage of sales of small
instruments and supplies to 54% for the nine months ended September 30, 1996
from 57% for the comparable period due to higher gross margins on the recently
added Cen-Slide(R) urine sediment analysis system and Biovation product line as
compared to the Company's other small instruments and supplies, as well as
improved gross margins on the StatSpin product lines due to the higher sales
volume and cost reductions.  The net result of these changes and the overall
change in product mix was a decrease in aggregate gross margin to 46% for the
nine months ended September 30, 1996 from 51% for the prior period.

         Marketing and selling expenses consist primarily of salaries,
commissions and related travel expenses of the Company's direct sales force, as
well as salaries for the marketing and distributor relations departments.
Marketing and selling expenses increased to $3.2 million for the nine months
ended September





                                      -17-
<PAGE>   18
30, 1996 from $2.1 million, an increase of $1.1 million or 55% over the
comparable period, and increased as a percentage of net sales to 23% from 20%,
due to the addition of the PSI sales force, increased trade show expenses and
increased spending on direct sales and after-sales support.  The Company
expects trade show expenses and spending on direct sales and after-sales
support to decline during the fourth quarter of this year.

        General and administrative expenses consist primarily of payroll costs
associated with the Company's management and support personnel, facilities
related costs and legal and accounting fees.  General and administrative
expenses increased to $2.3 million for the nine months ended September 30, 1996
from $1.3 million, an increase of $1.0 million or 81% over the comparable
period, and increased as a percentage of net sales to 16% from 12%, primarily as
a result of one-time costs associated with the StatSpin acquisition, an increase
in the allowance for doubtful accounts, incremental costs associated with the
addition of the business acquired from PSI, increased legal and accounting
expenses, increased facilities costs, and the addition of personnel to the
administrative staff.

         Net research and development expenses consist of costs incurred for
the development of new products and improvements to existing products less
third-party reimbursements under joint development programs, grants and
research and development contracts.  Net research and development expenses
increased to $1.2 million for the nine months ended September 30, 1996 from
$882,000, an increase of $367,000 or 42% over the comparable period, and
increased slightly as a percentage of net sales to 9% from 8%.  Reimbursements
under joint development programs increased to $1.3 million from $795,000.
Total product technology expenditures increased to $3.1 million from $1.9
million, an increase of $1.2 million or 69% over the comparable period, due
primarily to the acceleration of work on the Model 900UDx(R) prior to its
launch, commercial refinements to The White IRIS(R) following FDA clearance in
preparation of its launch and the addition of research and development staff
from PSI.

         Amortization of intangible assets reflects the amortization of
deferred expenses for warrants issued in connection with joint development
projects, intangible assets arising from acquisitions and patents.  See "--
Overview" and "-- Liquidity and Capital Resources." Amortization of intangible
assets for the nine months ended September 30, 1996 increased to $446,000 from 
$130,000, an increase of $316,000 or 243% over the comparable period, primarily 
as a result the issuance of warrants in connection with the development project 
with Poly and the acquisition of intangible assets in the PSI Acquisition.  See 
"-- Liquidity and Capital Resources."

         The results of operations for the nine months ended September 30, 1996
include additional charges to earnings of $1.3 million during the third quarter
for the write-off of deferred offering costs, litigation expenses and
reductions in the net realizable value of inventory and other assets.  Due to
the Company's decision not to pursue a previously announced public offering,
the Company recognized $824,000 of expenses associated with the offering.  See
"-- Liquidity and Capital Resources."  The charge to earnings also includes
$301,000 for expenses related to ongoing litigation with Intelligent Medical
Imaging, Inc. and an arbitration with TOA Medical Electronics, Inc. and
$191,000 for reductions in the net realizable value of inventory and other
assets.  The Company does not expect these charges to recur, except that
litigation and arbitration expenses will continue during the fourth quarter and
perhaps beyond.  The Company expects a decision in the arbitration during the
fourth quarter, and the prevailing party is expected to recover attorney fees
(estimated at $250,000 or more) from the other party.  The Company also expects
to incur an additional charge to earnings of approximately $300,000 in the
fourth quarter of 1996 for severance and other incremental costs associated
with a recent restructuring of the Company's personnel.  See "-- Recent
Developments."

         Acquisition of in-process research and development for the nine months
ended September 30, 1996 reflects the PSI Acquisition which resulted in a
non-recurring charge against earnings of $7.3 million in the third quarter of
1996 for the acquisition of in-process research and development.  Acquisition
of in-process





                                      -18-
<PAGE>   19
research and development for the nine months ended September 30, 1995 reflects
the acquisition of LDA which resulted in a non-recurring, non-cash charge of
$3.2 million against earnings in the second quarter of 1995 for the acquisition
of in-process research and development (i.e., work-in-process not yet cleared
by the FDA).  The FDA cleared The White IRIS(R) in May 1996.

         Interest income consists of income from investments and decreased to
$182,000 for the nine months ended September 30, 1996 from $244,000 for the
comparable period, primarily as the result of decreased amounts of invested
cash during the 1996 period.

         Interest expense consists in 1996 primarily of interest indebtedness
incurred to finance the PSI Acquisition (consisting of the Term Loan, the
Subordinated Note and the Credit Facility).  See "-- Liquidity and Capital
Resources" and "-- PSI and Other Recent Acquisitions." Interest expense
increased to $248,000 for the nine months ended September 30, 1996 from $41,000
for the comparable period due to the completion in July 1996 of the PSI
Acquisition.

         Other income consists principally of royalties for sales of licensed
products and was $63,000 for the nine months ended September 30, 1996,
relatively unchanged from the comparable period.

         The income tax benefit for the nine months ended September 30, 1996
was $3.5 million as compared to an income tax provision of $32,000 for the
comparable period in 1995.  The effective tax rate (benefit) increased to (38)%
for the nine months ended September 30, 1996 from 3% for the 1995 period
(before non-recurring charges) due to management's assessment that it is more
likely than not that the net operating loss generated in 1996 will be realized
through future taxable income.  For the nine months ended September 30, 1995,
the income tax benefit from the utilization of net operating loss carryforwards
was recognized in the period of utilization.

         The above factors contributed to a net loss of $5.7 million, or $0.90
per share, for the nine months ended September 30, 1996 as compared to a net
loss of $1.9 million, or $0.34 per share, for the nine months ended September
30, 1995.  Excluding the charges to earnings for the acquisition of in-process
research and development from PSI and LDA and the $1.3 million of additional
charges to earnings discussed above, the Company would have had a net loss of
approximately $420,000, or $0.07 per share, and net income of $1.2 million, or
$0.18 per share, for the nine month periods ended September 30, 1996 and 1995,
respectively.

         Comparison of Three Months Ended September 30, 1996 to Three Months
Ended September 30, 1995

         Net sales for the three months ended September 30, 1996 increased to
$5.5 million from $3.7 million, an increase of $1.8 million or 48% over the
comparable period of the prior year.  Sales of IVD imaging systems increased to
$1.8 million from $1.1 million, an increase of $642,000 or 57% over the
comparable period.  The increase was due to the addition of the PowerGene(TM)
family of genetic analyzers to the Company's product line in August 1996,
partially offset by a decline in sales of The Yellow IRIS(R) urinalysis
workstations in the third quarter of 1996.  See "-- Comparison of Nine Months
Ended September 30, 1996 to Nine Months Ended September 30, 1995."  Sales of
IVD imaging system supplies and service increased to $2.4 million from $1.8
million, an increase of $666,000 or 38% over the comparable period, due to the
larger installed base of IVD imaging systems and the ongoing conversion of the
installed base to the new CHEMSTRIP(R)/IRIStrip(TM) urine test strips.  As of
September 30, 1996, the Company had converted approximately 85% of the
installed base of The Yellow IRIS(R) systems from test strips marketed by
various distributors to the new test strips marketed exclusively by the
Company.  Sales of small instruments and supplies increased to $1.3 million
from $854,000 million, an increase of $492,000 or 58%, over the comparable
period.  The increase reflects generally higher sales levels of StatSpin
products, as well as the





                                      -19-
<PAGE>   20
addition of the Cen-Slide(R) urine sediment analysis system in March 1996 and
the product line acquired from Biovation in March 1995.  See "-- PSI and Other
Recent Acquisitions."

         Cost of goods for IVD imaging systems increased as a percentage of
sales of IVD imaging systems to 53% for the three months ended September 30,
1996 from 48% for the comparable period due primarily to the addition of the
Model 900UDx(TM) to the product line and amortization of certain fixed costs
for IVD imaging systems over a smaller volume of system sales.  These factors
were partially offset by the addition of the higher-margin PowerGene(TM) family
of genetic analyzers to the Company's product line in August 1996.  See "--
Comparison of Nine Months Ended September 30, 1996 to Nine Months Ended
September 30, 1995."  Cost of goods for IVD imaging system supplies and service
increased as a percentage of sales of such products to 63% for the three months
ended September 30, 1996 from 45% for the comparable period primarily due to
relatively lower gross margins on sales of CHEMSTRIP(R)/IRIStrip(TM) urine test
strips, which accounted for a greater proportion of sales of system supplies,
as well as a decline in gross margin on certain other IVD imaging system
supplies and service.  Cost of goods for small instruments and supplies
decreased as a percentage of sales of small instruments and supplies to 55% for
the three months ended September 30, 1996 from 56% for the comparable period.
The net result of these changes and the overall change in product mix was a
decrease in aggregate gross margin to 42% for the three months ended September
30, 1996 from 52% for the comparable period.

         Marketing and selling expenses increased to $1.5 million for the three
months ended September 30, 1996 from $731,000, an increase of $804,000 or 110%
over the comparable period, and increased as a percentage of net sales to 28%
from 20%, due to the addition of PSI's direct sales force in August 1996, lower
sales of The Yellow IRIS(R) workstation, increased trade show expenses and
increased spending on direct sales and after-sales support.  See "-- Comparison
of Nine Months Ended September 30, 1996 to Nine Months Ended September 30,
1995."

         General and administrative expenses increased to $1.1 million for the
three months ended September 30, 1996 from $435,000, an increase of $637,000 or
147% over the comparable period, and increased as a percentage of net sales to
19% from 12%, primarily as a result of an increase in the allowance for
doubtful accounts, incremental costs associated with the addition of the
business acquired from PSI, increased legal and accounting expenses, increased
facilities costs and the addition of personnel to the administrative staff.

         Net research and development expenses increased to $658,000 for the
three months ended September 30, 1996 from $218,000, an increase of $440,000 or
202% over the comparable period, due principally to increased expenditures self
funded by the Company, and increased as a percentage of net sales to 12% from
6%.  Total product technology expenditures increased to $1.3 million from
$473,000, an increase of $839,000 or 177% over the comparable period, due
primarily to commercial refinements to The White IRIS(R) following FDA
clearance in preparation of its launch, enhancements to the Model 900UDx(TM)
and the addition of research and development staff from PSI.

         Amortization of intangible assets for the three months ended September
30, 1996 increased to $266,000 from $47,000, an increase of $219,000 or 468%
over the comparable period, primarily as a result the issuance of warrants in
connection with the development project with Poly and the acquisition of
intangible assets in the PSI Acquisition.  See "-- Liquidity and Capital
Resources."

         The results of operations for the three months ended September 30,
1996 include additional charges to earnings of $1.3 million during the period
for the write-off of deferred offering costs, litigation expenses and
reductions in the net realizable value of inventory and other assets.  See "--
Comparison of Nine Months Ended September 30, 1996 to Nine Months Ended
September 30, 1995."





                                      -20-
<PAGE>   21
         Acquisition of in-process research and development for the three
months ended September 30, 1996 reflects the PSI Acquisition which resulted in
a non-recurring charge against earnings of $7.3 million in the third quarter of
1996 for the acquisition of in-process research and development.

         Interest income decreased to $45,000 for the three months ended
September 30, 1996 from $69,000 for the comparable period, primarily as the
result of decreased amounts of invested cash during the 1996 period.

         Interest expense increased to $243,000 for the three months ended
September 30, 1996 from $4,000 for the comparable period due to indebtedness
incurred in July 1996 to finance the PSI Acquisition.  See "-- Liquidity and
Capital Resources."

         Other income was $31,000 for the three months ended September 30, 1996
for sales of licensed products.

         The income tax benefit for the three months ended September 30, 1996
was $3.7 million as compared to an income tax provision of $3,000 for the
comparable period in 1995.  The effective tax rate increased to 37% for the
three months ended September 30, 1996 due to management's assessment that it is
more likely than not that the net operating loss generated in 1996 will be
realized through future taxable income.  For the three months ended September
30, 1995, the income tax benefit from the utilization of net operating loss
carryforwards was recognized in the period of utilization.

         The above factors contributed to net loss of $6.3 million, or $0.98
per share, for the three months ended September 30, 1996 as compared to net
income of $564,000, or $0.09 per share, for the three months ended September
30, 1995.  Excluding the charge to earnings for the acquisition of in-process
research and development from PSI and the $1.3 million of additional charges to
earnings discussed above, the Company would have had a net loss of
approximately $850,000 or $0.13 per share, for the three month period ended
September 30, 1996.

LIQUIDITY AND CAPITAL RESOURCES

         Cash, cash equivalents and short-term investments decreased to
$791,000 (excluding $1.8 million in restricted short-term investments pledged
to the Bank) at September 30, 1996 from $6.2 million at December 31, 1995.  The
decrease is primarily attributable to the third quarter operating loss,
StatSpin and PSI acquisition expenses, increased levels of inventory and
accounts receivable, the acquisition of the Cen- Slide(R) urine sediment
analysis system and the purchase of additional manufacturing and office
equipment.  Inventory levels during the first nine months of 1996 increased to
$4.6 million from $2.9 million.  This increase was primarily due to the
addition of PSI products and the Model 900UDx(TM) to the product line, as well
as the additional inventory of supplies and spare parts required to support the
growing size of the installed base of IVD imaging systems.  Total accounts
receivable increased to $5.9 million at September 30, 1996 from $3.8 million at
December 31, 1995.  This increase was the result of higher sales levels
generated by the addition of the PowerGene(TM) family of genetic analyzers to
the Company's product line in August 1996.

         In the nine months ended September 30, 1996, the Company expended
$881,000 for capital equipment, primarily for manufacturing and office
equipment, and $559,000 in capitalized software development.  The Company
expended $821,000, $266,000 and $439,000 for capital equipment and $299,000,
$25,000 and $81,000 in capitalized software development in 1995, 1994 and 1993,
respectively.  The Company does not presently have any material commitments for
capital expenditures.  However, the Company expects a decision in the
arbitration with TOA Medical Electronics, Inc. during the fourth quarter,





                                      -21-
<PAGE>   22
and the prevailing party is expected to recover attorney fees (estimated at
$250,000 or more) from the other party.

         During the nine months ended September 30, 1996, the Company generated
cash of $285,000 from stock sales to employees under the Company's stock option
and purchase plans and from exercises of stock options assumed in connection
with the StatSpin acquisition.  The Company generated cash of $1.7 million,
$356,000 and $206,000 in 1995, 1994 and 1993, respectively, from exercises of
outstanding warrants issued in connection with the formation of LDA and stock
sales to employees under the Company's stock option and purchase plans.

         In September 1995, the Company purchased the Corange Securities at
their original aggregate purchase price of $2.1 million.  The Company has not
yet paid the purchase price which is due on or before December 31, 1996.  See
"-- Overview."

         On July 31, 1996, the Company completed the PSI Acquisition for
approximately $16.1 million in cash plus a five-year warrant to purchase
875,000 shares of the Company's Common Stock at $8.00 per share.  The Company
financed the cash portion of the purchase price with (i) a $7.0 million
principal amount subordinated note issued to PSI's parent company (the
"Subordinated Note"), (ii) a $7.8 million term loan from City National Bank
(the "Bank") (the "Term Loan") and (iii) $1.3 million loan drawn under a new
revolving line of credit with the Bank (the "Credit Facility").

         The Subordinated Note bears interest at a fixed rate of 8.5% per annum
payable in quarterly installments.  The entire principal amount is due on or
before July 31, 2001.  The Company may prepay the Subordinated Note at any time
without premium or penalty.  Under the terms of the Subordinated Note, upon the
issuance by the Company of equity securities generating net proceeds in excess
of $14.5 million, the Company shall apply fifty percent of the excess to the
prepayment of the Subordinated Note.  The payment of principal and interest on
the Subordinated Note is subordinated in right of payment, to the extent and in
the manner provided therein, to the prior payment in full of all indebtedness
to the Bank.

         The Term Loan is collateralized by a first priority lien on all the
assets of the Company and bears interest monthly at the Bank's prime rate
(8.25% as of October 31, 1996) plus 0.25% through December 1, 1996 and 1.0%
thereafter.  The Company is required to repay $1.8 million of principal on or
before December 1, 1996, $100,000 of principal each month thereafter commencing
January 1, 1997 and the balance of $4.7 million on or before January 15, 1998.
The Company may prepay the Term Loan at any time without premium or penalty.
In November, the Company prepaid the December 1, 1996 principal payment of $1.8
million through the liquidation of certain short-term investments previously
pledged to the Bank and thereby reduced the outstanding principal balance of
the Term Loan to $6.0 million.  The Term Loan imposes substantially the same
operating and financial covenants on the Company as the Credit Facility
(discussed below).

         The Company established the Credit Facility in July 1996.  Under the
terms of the Credit Facility, the Company can borrow and reborrow up to a
maximum principal amount of $1.5 million at a variable interest rate equal to
the Bank's prime rate (8.25% as of October 31, 1996).  The Company had
approximately $200,000 of unused credit available under the Credit Facility at
October 31, 1996.  The Credit Facility matures June 1, 1997 and is
collateralized by a first priority lien on all of the assets of the Company.
The Credit Facility imposes certain operating and financial covenants on the
Company, including, among other things, (i) financial covenants regarding
minimum tangible net worth, a minimum fixed charge coverage ratio, a maximum
ratio of senior liabilities to tangible net worth and a minimum ratio of
current assets to current liabilities, (ii) restrictions on the disposition of
assets other than in the ordinary course of business, (iii)





                                      -22-
<PAGE>   23
covenants to maintain the Company's assets and appropriate insurance coverage
and (iv) covenants to deliver from time to time certain financial and other
information.

         As of September 30, 1996, the Company was no longer in compliance with
the financial covenants of the Term Loan or the Credit Facility.  The failure
to comply with such covenants constitutes an event of default under the Term
Loan and the Credit Facility.  The Company is requesting that the Bank waive
the event of default.  If the Bank declines to grant the waiver, the Bank may
exercise its rights under the applicable agreements which include, among other
things, the right to declare the Term Loan and the Credit Facility immediately
due and payable and the right to sell, lease or otherwise dispose of the
Company's assets in satisfaction of the debt.  An election by the Bank to
accelerate either the Term Loan or the Credit Facility would constitute an
event of default under the Subordinated Note and entitle the holder thereof to
similarly declare the Subordinated Note immediately due and payable.  A
decision by the Bank to exercise its rights under the Term Loan or Credit
Facility would have a material adverse effect on the Company.

         Assuming that the Company meets its planned goals for increased sales,
reduced operating expenses and improved collection of accounts receivable, the
Company believes that its current cash on hand plus short-term investments,
together with cash generated by operations, will be sufficient to fund normal
operations and pay interest on outstanding debt obligations for at least the
next year.  However, there can be no assurance that these goals will be
achieved.  In addition, the Company will require outside financing to fund
additional principal payments under the Term Loan and the Credit Facility for
at least the next year and to pay the purchase price for the Corange Securities
at year end.  The remaining payments on these obligations (excluding interest)
total $2.1 million, $2.5 million and $4.8 million in 1996, 1997 and 1998,
respectively.  Absent an event of default under the Subordinated Note, the
Company is not obligated to pay any principal on the Subordinated Note until
its maturity on July 31, 2001.

         In September 1996, the Company filed a registration statement with the
Securities and Exchange Commission for an underwritten public offering by the
Company of 3,000,000 shares of its Common Stock.  Based on the price of the
Common Stock at that time, the public offering was expected to generate net
proceeds of $20 million or more.  The net proceeds of the offering were to be
used primarily to purchase the Corange Securities and to reduce outstanding
indebtedness incurred to finance the PSI Acquisition.  The Company has elected
not to pursue the public offering at this time and, alternatively, plans to
pursue a significantly smaller financing transaction to fund the purchase price
for the Corange Securities and part or all of the remaining principal payments
under the Term Loan and the Credit Facility.  The Company is not presently in
negotiations for such financing and there can be no assurance that the Company
can secure adequate financing on favorable terms, if at all.  If the Company is
unable to obtain such financing or the Bank elects to accelerate the maturity
of the Term Loan or Credit Facility in the interim, the Company will be unable
to make the required payments under the Term Loan or the Credit Facility or to
purchase the Corange Securities.  Under those circumstances, in order to
continue operations the Company would have to pursue an arrangement with its
creditors to reschedule the Company's debts, either voluntarily or
involuntarily.

         In September 1995, the Company and Poly entered into a research and
development agreement to develop the Poly Products using the Company's
technology.  These products are intended to have dual potential as both
stand-alone products and enhancements to The Yellow IRIS(R) family of
urinalysis workstations.  Under the terms of this agreement, Poly will have the
right to use Company technology and any newly-developed technology for
developing, manufacturing and marketing the Poly Products as stand-alone
devices, and the Company will have the right to use the newly-developed
technology for any other purpose and to incorporate the Poly Products into The
Yellow IRIS(R) family of products.  Poly has retained the Company to conduct
research, development, clinical evaluation and premarket testing of the Poly
Products.  The Company is funding the first $15,000 per month (up to a maximum
of $500,000) of the cost





                                      -23-
<PAGE>   24
of the project, and Poly is reimbursing the Company for the excess.  Poly was
organized by the Company in June 1995 and subsequently raised net proceeds of
approximately $2.0 million in a private offering.  The Company has an option
until 121 days after termination of the agreement with Poly to acquire all of
the common stock of Poly for an aggregate price increasing on August 1, 1997
from $4.4 million to $5.1 million payable in cash or shares of Common Stock of
the Company.  If the Company elects to exercise its option, the portion of the
net cost of the acquisition allocated to completed products would be
capitalized and its subsequent amortization would impact future earnings.  For
the portion of the net cost of the acquisition allocated to in-process research
and development, the Company would record a nonrecurring, noncash (if purchased
with Common Stock), charge against then current earnings.

PSI AND OTHER RECENT ACQUISITIONS

         In 1995, the Company began implementing a strategy to achieve global
IVD imaging leadership by expanding its product line of IVD imaging systems and
adding complementary lines of small instruments and supplies.

         In July 1996, IRIS consummated the PSI Acquisition for approximately
$16.1 million plus a five-year warrant to purchase 875,000 shares of Common
Stock at $8.00 per share.  See "-- Liquidity and Capital Resources."  For the
nine months ended September 30, 1996, total revenues from the IVD imaging
business acquired from PSI (the last two months of which are included in the
Company's revenues) increased to $4.9 million from $3.7 million, an increase of
$1.2 million or 32% over the comparable period of the prior year.  This
business generated total revenues of $5.4 million, $4.3 million and $3.0
million in 1995, 1994 and 1993, respectively, reflecting annual increases of
25% and 46%, respectively.

         PSI had an international presence and generated 55% and 56% of its
total revenue from international sales of the PowerGene(TM) product line for
the six months ended June 30, 1996 and the twelve months ended December 31,
1995, respectively.  With the PSI Acquisition, the Company acquired PSI's
foreign subsidiary headquartered in Chester, England that supports agents and
distributors in more than thirty-five countries.  Prior to the acquisition, the
Company's international sales were not significant.  The Company intends to
market all of its products globally through the international subsidiary
acquired from PSI and to enhance domestic sales of the PowerGene(TM) product
line through the Company's existing operations.  The Company has not yet
applied for regulatory clearances or approvals to market The Yellow IRIS(R) or
The White IRIS(R) in most of the foreign countries served by its foreign
subsidiary, and there can be no assurance that the Company can secure the
necessary clearances and approvals in the relevant foreign jurisdictions.  The
subsidiary acquired from PSI conducts business in various foreign currencies.
Consequently, fluctuations in exchange rates will affect the Company's future
consolidated operating results and such fluctuations could have an adverse
effect on the Company.

         The Company also acquired additional research and development staff
from PSI.  PSI expended $797,000, $410,000 and $152,000 for research and
development in 1995, 1994 and 1993, respectively.  These expenditures were
offset by research and development grants from the National Aeronautics and
Space Administration and the National Institutes of Health totalling $489,000,
$317,000 and $66,000 in 1995, 1994 and 1993, respectively.

         As a result of the PSI Acquisition, the Company recognized a charge
against earnings of $7.3 million in the third quarter of 1996 for the
acquisition of in-process research and development.  In addition, interest
expense has increased substantially due to debt incurred in connection with the
PSI Acquisition.  See "-- Liquidity and Capital Resources."





                                      -24-
<PAGE>   25
         In March 1996, the Company purchased the Cen-Slide(R) 1500 System for
centrifugal urine sedimentation and manual microscopic examination and certain
other products for $788,000.  The Company generated revenues from these
products of approximately $267,000 from the date of acquisition to September
30, 1996.

         In February 1996, the Company merged with StatSpin for approximately
340,000 shares of Common Stock and the assumption of options and warrants to
purchase an additional 126,000 shares of Common Stock in a pooling-of-interests
transaction for accounting purposes.  Accordingly, the financial statements of
the Company have been retroactively restated for all periods presented to
include the financial position, results of operations and cash flows of
StatSpin.  StatSpin manufactures special-purpose centrifuges,
application-specific consumable items and other small laboratory instruments.
Through this acquisition, the Company acquired sample preparation technologies
useful for future IVD imaging applications, as well as access to key
distributors for its small laboratory instruments and supplies.  StatSpin had
net sales of $3.1 million for the nine months ended September 30, 1996 and $3.1
million for the twelve months ended December 31, 1995.

         In June 1995, the Company purchased LDA for approximately 498,000
shares of Common Stock.  LDA was a Company-sponsored research and development
entity which provided funding for The White IRIS(R) leukocyte differential
analyzer under a research and development agreement with the Company.  See "--
Overview."

         In March 1995, the Company purchased its digital refractometer product
line from Biovation for $850,000 and warrants to purchase 75,000 shares of
Common Stock at $8.125 per share.  The Company generated revenues from this
product line of approximately $302,000 for the nine months ended September 30,
1996.

HEALTHCARE REFORM POLICIES

         In recent years, an increasing number of legislative proposals have
been introduced or proposed in Congress and in some state legislatures that
would effect major changes in the healthcare system, nationally, at the state
level or both.  Future legislation, regulation or payment policies of Medicare,
Medicaid, private health insurance plans, health maintenance organizations and
other third-party payors could adversely affect the demand for the Company's
current or future products and its ability to sell its products on a profitable
basis.  Moreover, healthcare legislation is an area of extensive and dynamic
change, and the Company cannot predict future legislative changes in the
healthcare field or their impact on its business.

INFLATION

         The Company does not foresee any material impact on its operations
from inflation.

RECENTLY-ISSUED ACCOUNTING STANDARDS

         In December 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standard No. 123 ("SFAS No. 123"),
"Accounting for Stock Based Compensation."  The Company will adopt the
disclosure method as provided for in SFAS No. 123.

         In March 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets To Be Disposed Of
("Statement 121").  Statement 121 addresses the accounting for the impairment
of long-lived assets, certain identifiable intangibles and goodwill related to
those assets to be held and used.  Statement 121 also addresses the accounting
for long-lived assets and certain identifiable intangibles to be disposed of,





                                      -25-
<PAGE>   26
establishes guidance for recognizing and measuring impairment losses and
requires that the carrying amount of impaired assets be reduced to fair value.
Statement 121 was effective for fiscal years beginning after December 15, 1995.
The impact of the adoption of Statement 121 was not material to the Company's
September 30, 1996 financial statements.

FORWARD-LOOKING STATEMENTS

         Except for historical information, the matters discussed above are
forward-looking statements that are subject to certain risks and uncertainties
that could cause actual results to differ materially from those set forth in
such forward-looking statements.  In addition to those described above, such
risks and uncertainties include, among other things, the difficulties of
continuing penetration of the capital-intensive worldwide laboratory
instrument market, rapid technological change in the microelectronics and
software industries, increasing competition from imaging and non-imaging based
IVD products, unanticipated technological difficulties in gaining synergies,
and potential patent and other litigation with third parties.  The Company's
most recent Form 10-K and other SEC filings describe these and other additional
factors that could cause actual results to differ materially from those
described in the forward-looking statements.


PART 2.  OTHER INFORMATION

         ITEM 1.  LEGAL PROCEEDINGS

         In 1994, the Company became aware that Intelligent Medical Imaging,
Inc. ("IMI") was demonstrating a new slide-based microscopic imaging system at
various trade shows.  After further examination of the IMI system, the Company
notified IMI that its system infringed upon at least two of the Company's
patents.  The parties then entered into negotiations regarding the licensing to
IMI of these and possibly other Company patents.  The parties were unable to
reach an agreement and, on September 27, 1995, IMI filed a complaint in the
United States District Court for the Southern District of Florida (Case No.
95-8594CIV).  In its complaint, IMI seeks, among other things, declaratory
judgements that: (i) IMI's system does not infringe upon either of the two
Company patents in question; (ii) both of such Company patents are invalid or
unenforceable; and (iii) the Company is in violation of certain United States
antitrust laws.  The Company is defending the validity and enforceability of
both patents and the antitrust claims and pursuing infringement counterclaims
against IMI.

         In 1995, TOA Medical Electronics, Inc. ("TOA") began displaying the
UF-100 urine sediment analyzer in the United States.  The Company subsequently
asserted its rights under a 1988 agreement between the two companies to
distribute the UF-100 in North America.  TOA disputed the right of the Company
to distribute the product and commenced an arbitration proceeding in March 1996
before the International Chamber of Commerce to determine whether it was
obligated to allow the Company to distribute the UF-100.  TOA seeks a ruling
that the UF-100 is not covered by the distribution provisions of the 1988
agreement.  TOA has not sought damages but is seeking reimbursement of its
legal fees.  The Company has asked the arbitration panel to also rule on
whether the Company is entitled to royalties on the UF-100 based on such
agreement.  The Company expects a decision in the arbitration with TOA during
the fourth quarter, and the prevailing party is expected to recover attorney
fees (estimated at $250,000 or more) from the other party.

         Additional information regarding the above matters is contained in the
Company's Quarterly Reports for the periods ended March 31, 1996 and June 30,
1996.





                                      -26-
<PAGE>   27
         ITEM 3.  DEFAULTS UPON SENIOR SECURITIES.

         As of September 30, 1996, the Company was no longer in compliance with
the financial covenants of the Term Loan for the principal amount of $7.8
million or the Credit Facility for the principal amount of $1.3 million.  The
failure to comply with such covenants constitutes an event of default under the
Term Loan and the Credit Facility.  The Company is requesting that the Bank
waive the event of default.  If the Bank declines to grant the waiver, the Bank
may exercise its rights under the applicable agreements which include, among
other things, the right to declare the Term Loan and the Credit Facility
immediately due and payable and the right to sell, lease or otherwise dispose
of the Company's assets in satisfaction of the debt.  An election by the Bank
to accelerate either the Term Loan or the Credit Facility would constitute an
event of default under the Subordinated Note and entitle the holder thereof to
similarly declare the Subordinated Note immediately due and payable.  A
decision by the Bank to exercise its rights under the Term Loan or Credit
Facility would have a material adverse effect on the Company.  See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources."

         ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

         (a) Exhibits

<TABLE>
<CAPTION>
No.                                                Description
--                                                 -----------

 <S>             <C>      <C>
 3.1             --       Certificate of Incorporation, as amended (1)

 3.2             --       Restated Bylaws (2)

 10.1            --       Lease of the Company's headquarters facility (4)

 10.2(a)         --       1982 Stock Option Plans and form of Stock 
                          Option Agreement (5)

 10.2(b)         --       1983 and 1986 Stock Option Plans, and forms of 
                          Stock Option Agreements for each Plan (6)

 10.2(c)         --       Amended and Restated 1986 Stock Option Plan (7)

 10.2(d)         --       1994 Stock Option Plan and forms of Stock Option 
                          Agreements (8)

 10.2(e)         --       Certificate of Officer With Respect to Amendment of 
                          1994 Stock Option Plan (9)

 10.2(f)         --       Key Employee Stock Purchase Plan

 10.3            --       Various Agreements with TOA Medical Electronics (10)

 10.4(a)         --       Agreement for a Strategic Alliance in Urinalysis dated
                          January 7, 1994 between IRIS and Boehringer Mannheim
                          Corporation (11)

 10.4(b)         --       Research and Development and Distribution Agreement
                          dated February 6, 1995 by and among IRIS, LDA Systems,
                          Inc. and Corange International Limited (11)

 10.4(c)         --       Amendment to Distribution Agreements



</TABLE>


                                      -27-
<PAGE>   28

<TABLE>
 <S>             <C>      <C>
 10.5            --       Warrant Certificate dated March 20, 1995 issued to 
                          Biovation, Inc. (11)

 10.6(a)         --       Technology License Agreement dated as of September 
                          29, 1995 between IRIS and Poly U/A Systems, Inc. (12)

 10.6(b)         --       Research and Development Agreement dated as of 
                          September 29, 1995 between IRIS and Poly U/A Systems, Inc. (12)

 10.6(c)         --       $100 Class "A" Note dated September 29, 1995 issued 
                          by Poly U/A Systems, Inc. in favor of IRIS (12)

 10.6(d)         --       Certificate of Incorporation of Poly U/A Systems, 
                          Inc. (See Article FOUR regarding the IRIS Option) (12)

 10.7(a)         --       Agreement and Plan of Merger dated January 31, 1996 
                          between IRIS and StatSpin, Inc. (13)

 10.7(b)         --       Registration Rights Agreement dated January 31, 1996 
                          between IRIS and StatSpin Stockholders (13)

 10.8(a)         --       Asset Purchase Agreement dated as of July 15, 1996 by
                          and among IRIS, Digital Imaging Technologies, Inc., Perceptive
                          Scientific Instruments, Inc. and Perceptive Scientific 
                          Technologies, Inc. (14)

 10.8(b)         --       Registration Rights and Standstill Agreement dated 
                          July 31, 1996 between IRIS and Digital Imaging Technologies, Inc.(9)

 10.8(c)         --       Warrant Certificate dated July 31, 1996 issued to 
                          Digital Imaging Technologies, Inc. (9)

 10.8(d)         --       Stockholder Guaranty Agreement dated July 31, 1996 between 
                          Edward Randall, III and PSII Acquisition Corp., a wholly-
                          owned subsidiary of IRIS (now known as Perceptive Scientific 
                          Instruments, Inc.) (9)

 10.8(e)         --       Non-Competition Agreement dated as of July 15, 1996 between 
                          Edward Randall, III and PSII Acquisition Corp., a wholly-
                          owned subsidiary of IRIS (now known as Perceptive Scientific 
                          Instruments, Inc.) (9)

 10.8(f)         --       Technology License Agreement dated July 31, 1996 between Perceptive 
                          Scientific Imaging Systems, Inc. and PSII
                          Acquisition Corp., a wholly-owned subsidiary of
                          IRIS (now known as Perceptive Scientific Instruments, Inc.) (9)

 10.9(a)         --       $7,000,000 Subordinated Note dated July 29, 1996 issued by IRIS 
                          in favor of Digital Imaging Technologies, Inc. (9)

 10.9(b)         --       $1,500,000 Promissory Note dated July 29, 1996 issued by IRIS to City 
                          National Bank (9)

 10.9(c)         --       Supplemental Terms letter dated July 29, 1996 between IRIS and City 
                          National Bank re: $1,500,000 Promissory Note (9)




</TABLE>

                                      -28-
<PAGE>   29
<TABLE>
 <S>             <C>      <C>
 10.9(d)         --       Commercial Security Agreement dated July 29, 1996 executed by IRIS in favor of 
                          City National Bank re: $1,500,000 Promissory Note (9)

 10.9(e)         --       $7,800,000 Promissory Note dated July 29, 1996 issued by IRIS to 
                          City National Bank (9)

 10.9(f)         --       Supplemental Terms letter dated July 29, 1996 between 
                          IRIS and City National Bank re: $7,800,000 Promissory Note (9)

 10.9(g)         --       Commercial Pledge Agreement dated July 29, 1996 executed by 
                          IRIS in favor of City National Bank re: $7,800,000
                          Promissory Note (9)

 11              --       Statement re: Computation of Per Share Earnings

 27              --       Financial Data Schedule
</TABLE>
___________________


 (1)     Incorporated by reference to the Company's Current Report on Form 8-K
         dated August 13, 1987 and its Quarterly Report on Form 10-Q for the
         quarter ended September 30, 1993.

 (2)     Incorporated by reference to the Company's Quarterly Report on Form
         10-Q for the quarter ended September 30, 1994.

 (3)     Incorporated by reference to the Company's Registration Statement on
         Form S-3, as filed with the Securities and Exchange Commission on
         March 27, 1996 (File No. 333-002001).

 (4)     The original lease and all prior amendments are incorporated by
         reference to the Company's Annual Report on Form 10-K for the year
         ended December 31, 1989, its quarterly report on Form 10-Q for the
         quarter ended September 30, 1993 and its Annual Report on Form 10-K
         for the year ended December 31, 1994.

 (5)     Incorporated by reference to the Company's Registration Statement on
         Form S-2, as filed with the Securities and Exchange Commission on
         September 4, 1985 (File No. 2-99240).

 (6)     Incorporated by reference to the Company's Registration Statement on
         Form S-8, as filed with the Securities and Exchange Commission on May
         10, 1982 (File No. 2-77496).

 (7)     Incorporated by reference to the Company's Annual Report on Form 10-K
         for the year ended December 31, 1992.

 (8)     Incorporated by reference to the Company's Registration Statement on
         Form S-8, as filed with the Securities and Exchange Commission on
         August 8, 1994 (File No. 33-82560).

 (9)     Incorporated by reference to the Company's Quarterly Report on Form
         10-Q for the quarter ended June 30, 1996.

(10)     Incorporated by reference to the Company's Current Report on Form 8-K
         dated July 15, 1988 and its quarterly report on Form 10-Q for the
         quarter ended June 30, 1995.





                                      -29-
<PAGE>   30
(11)     Incorporated by reference to the Company's Annual Report on Form 10-K
         for the year ended December 31, 1994.

(12)     Incorporated by reference to the Company's Quarterly Report on Form
         10-Q for the quarter ended September 31, 1995.

(13)     Incorporated by reference to the Company's Annual Report on Form 10-K
         for the year ended December 31, 1995.

(14)     Incorporated by reference to the Company's Current Report on Form 8-K
         filed July 17, 1996.


(b) Reports on Form 8-K

     During the quarter for which this report is filed, the Company filed
reports on Form 8-K on: (i) July 18, 1996 to report that IRIS entered into a
definitive agreement to acquire the digital imaging business of PSI; (ii)
August 13, 1996 to report that IRIS acquired PSI; (iii) October 2, 1996 to
report a press release announcing an amendment to a series of agreements with
Boehringer Mannheim Corporation and its affiliates which modifies the
relationship of IRIS with these companies; and (iv) October 2, 1996 to report a
press release announcing that IRIS had filed a registration statement with the
Securities and Exchange Commission for a public offering of 3,000,000 shares of
its Common Stock.

     The Company also filed (i) a Form 8-K on October 31, 1996 to report a
press release announcing a workforce restructuring; and (ii) a Form 8-K/A on
October 10, 1996 to amend its report on Form 8-K filed August 13, 1996 to add
historical and pro forma financial information previously omitted in accordance
with Item 7 of Form 8-K.


                                      -30-





<PAGE>   31

                                   SIGNATURES



     Pursuant to the requirements of the Securities Exchange Act of 1934, the
     registrant has duly caused this report to be signed on its behalf by the
     undersigned thereunto duly authorized.





                                   INTERNATIONAL REMOTE IMAGING SYSTEMS, INC.





Dated:  November 19, 1996          By: /s/ Martin S. McDermut             
                                      ------------------------------------------
                                      Martin S. McDermut
                                      Vice President, Finance and Administration
                                      and Chief Financial Officer





                                      -31-
<PAGE>   32
                                 EXHIBIT INDEX


<TABLE>
<CAPTION>
                                                                                           Sequentially
 Exhibit                                                                                   Numbered
 Number                                        Description                                 Page        
 ------                                        -----------                                 ------------
 <S>             <C>  <C>                                                                  <C>
 3.1             --   Certificate of Incorporation, as amended (1)
 3.2             --   Restated Bylaws (2)

 10.1            --   Lease of the Company's headquarters facility (4)

 10.2(a)         --   1982 Stock Option Plans and form of Stock Option Agreement (5)
 10.2(b)         --   1983 and 1986 Stock Option Plans, and forms of Stock Option
                      Agreements for each Plan (6)

 10.2(c)         --   Amended and Restated 1986 Stock Option Plan (7)
 10.2(d)         --   1994 Stock Option Plan and forms of Stock Option Agreements (8)

 10.2(e)         --   Certificate of Officer With Respect to Amendment of 1994 Stock
                      Option Plan (9)

 10.2(f)         --   Key Employee Stock Purchase Plan
 10.3            --   Various Agreements with TOA Medical Electronics (10)

 10.4(a)         --   Agreement for a Strategic Alliance in Urinalysis dated January 7,
                      1994 between IRIS and Boehringer Mannheim Corporation (11)
 10.4(b)         --   Research and Development and Distribution Agreement dated
                      February 6, 1995 by and among IRIS, LDA Systems, Inc. and Corange
                      International Limited (11)

 10.4(c)         --   Amendment to Distribution Agreements

 10.5            --   Warrant Certificate dated March 20, 1995 issued to Biovation,
                      Inc. (11)
 10.6(a)         --   Technology License Agreement dated as of September 29, 1995
                      between IRIS and Poly U/A Systems, Inc. (12)

 10.6(b)         --   Research and Development Agreement dated as of September 29, 1995
                      between IRIS and Poly U/A Systems, Inc. (12)
 10.6(c)         --   $100 Class "A" Note dated September 29, 1995 issued by Poly U/A
                      Systems, Inc. in favor of IRIS (12)

 10.6(d)         --   Certificate of Incorporation of Poly U/A Systems, Inc. (See
                      Article FOUR regarding the IRIS Option) (12)

</TABLE>


                                      -32-
<PAGE>   33
Sequentially
<TABLE>
<CAPTION>
                                                                                           Sequentially
 Exhibit                                                                                   Numbered
 Number                                        Description                                 Page        
 ------                                        -----------                                 ------------
 <S>             <C>  <C>                                                                  <C>
 10.7(a)         --   Agreement and Plan of Merger dated January 31, 1996 between IRIS
                      and StatSpin, Inc. (13)
 10.7(b)         --   Registration Rights Agreement dated January 31, 1996 between IRIS
                      and StatSpin Stockholders (13)

 10.8(a)         --   Asset Purchase Agreement dated as of July 15, 1996 by and among
                      IRIS, Digital Imaging Technologies, Inc., Perceptive Scientific
                      Instruments, Inc. and Perceptive Scientific Technologies, Inc.
                      (14)

 10.8(b)         --   Registration Rights and Standstill Agreement dated July 31, 1996
                      between IRIS and Digital Imaging Technologies, Inc. (9)
 10.8(c)         --   Warrant Certificate dated July 31, 1996 issued to Digital Imaging
                      Technologies, Inc. (9)

 10.8(d)         --   Stockholder Guaranty Agreement dated July 31, 1996 between Edward
                      Randall, III and PSII Acquisition Corp., a wholly-owned
                      subsidiary of IRIS (now known as Perceptive Scientific
                      Instruments, Inc.) (9)
 10.8(e)         --   Non-Competition Agreement dated as of July 15, 1996 between
                      Edward Randall, III and PSII Acquisition Corp., a wholly-owned
                      subsidiary of IRIS (now known as Perceptive Scientific
                      Instruments, Inc.) (9)

 10.8(f)         --   Technology License Agreement dated July 31, 1996 between
                      Perceptive Scientific Imaging Systems, Inc. and PSII Acquisition
                      Corp., a wholly-owned subsidiary of IRIS (now known as Perceptive
                      Scientific Instruments, Inc.) (9)

 10.9(a)         --   $7,000,000 Subordinated Note dated July 29, 1996 issued by IRIS
                      in favor of Digital Imaging Technologies, Inc. (9)
 10.9(b)         --   $1,500,000 Promissory Note dated July 29, 1996 issued by IRIS to
                      City National Bank (9)

 10.9(c)         --   Supplemental Terms letter dated July 29, 1996 between IRIS and
                      City National Bank re:  $1,500,000 Promissory Note (9)
 10.9(d)         --   Commercial Security Agreement dated July 29, 1996 executed by
                      IRIS in favor of City National Bank re: $1,500,000 Promissory
                      Note (9)

 10.9(e)         --   $7,800,000 Promissory Note dated July 29, 1996 issued by IRIS to
                      City National Bank (9)


</TABLE>



                                      -33-
<PAGE>   34
<TABLE>
<CAPTION>
                                                                                           Sequentially
 Exhibit                                                                                   Numbered
 Number                                        Description                                 Page        
 ------                                        -----------                                 ------------
 <S>             <C>  <C>                                                                  <C>
 10.9(f)         --   Supplemental Terms letter dated July 29, 1996 between IRIS and
                      City National Bank re:  $7,800,000 Promissory Note (9)
 10.9(g)         --   Commercial Pledge Agreement dated July 29, 1996 executed by IRIS
                      in favor of City National Bank re:  $7,800,000 Promissory Note
                      (9)

 11              --   Statement re: Computation of Per Share Earnings

 27              --   Financial Data Schedule

</TABLE>
________________

  (1)            Incorporated by reference to the Company's Current Report on
                 Form 8-K dated August 13, 1987 and its Quarterly Report on
                 Form 10-Q for the quarter ended September 30, 1993.

  (2)            Incorporated by reference to the Company's Quarterly Report on
                 Form 10-Q for the quarter ended September 30, 1994.

  (3)            Incorporated by reference to the Company's Registration
                 Statement on Form S-3, as filed with the Securities and
                 Exchange Commission on March 27, 1996 (File No. 333-002001).

  (4)            The original lease and all prior amendments are incorporated
                 by reference to the Company's Annual Report on Form 10-K for
                 the year ended December 31, 1989, its quarterly report on Form
                 10-Q for the quarter ended September 30, 1993 and its Annual
                 Report on Form 10-K for the year ended December 31, 1994.

  (5)            Incorporated by reference to the Company's Registration
                 Statement on Form S-2, as filed with the Securities and
                 Exchange Commission on September 4, 1985 (File No. 2-99240).

  (6)            Incorporated by reference to the Company's Registration
                 Statement on Form S-8, as filed with the Securities and
                 Exchange Commission on May 10, 1982 (File No. 2-77496).

  (7)            Incorporated by reference to the Company's Annual Report on
                 Form 10-K for the year ended December 31, 1992.

  (8)            Incorporated by reference to the Company's Registration
                 Statement on Form S-8, as filed with the Securities and
                 Exchange Commission on August 8, 1994 (File No. 33-82560).

  (9)            Incorporated by reference to the Company's Quarterly Report on
                 Form 10-Q for the quarter ended June 30, 1996.

 (10)            Incorporated by reference to the Company's Current Report on
                 Form 8-K dated July 15, 1988 and its quarterly report on Form
                 10- Q for the quarter ended June 30, 1995.

 (11)            Incorporated by reference to the Company's Annual Report on
                 Form 10-K for the year ended December 31, 1994.





                                      -34-
<PAGE>   35
 (12)            Incorporated by reference to the Company's Quarterly Report on
                 Form 10-Q for the quarter ended September 31, 1995.

 (13)            Incorporated by reference to the Company's Annual Report on
                 Form 10-K for the year ended December 31, 1995.

 (14)            Incorporated by reference to the Company's Current Report on
                 Form 8-K filed July 17, 1996.





                                      -35-