UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-K

(Mark one)

[X]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934

For the fiscal year ended December 31, 1997

                                       OR

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

For the transition period from ________________ to __________________

                         Commission File Number 0-15454

                       TANGRAM ENTERPRISE SOLUTIONS, INC.
             (Exact Name of Registrant as Specified in Its Charter)

         Pennsylvania                                    23-2214726
(State or Other Jurisdiction of             (I.R.S. Employer Identification No.)
 Incorporation or Organization)

                        11000 Regency Parkway, Suite 401
                                 Cary, NC 27511
               (Address of Principal Executive Offices) (Zip Code)

                                 (919) 653-6000
              (Registrant's telephone number, including area code)

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

                                      None

           Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $0.01 par value
                                (Title of class)

     Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes _X_ No ____

     Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. _X_

     The aggregate market value of shares of common stock held by non-affiliates
on March 23, 1998 (as reported on The Nasdaq SmallCap Market tier of The Nasdaq
Stock Market under the symbol TESI) was approximately $22,442,928.

     As of March 23, 1998, there were 15,721,999 shares of the Company's common
stock outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

     Portions of the registrant's definitive Proxy Statement relating to its
scheduled 1998 Annual Shareholders Meeting are incorporated by reference in Part
III, Items 10, 11, 12 and 13 of this report.



<PAGE>

                       Tangram Enterprise Solutions, Inc.
                               Index to Form 10-K
                   For the Fiscal Year Ended December 31, 1997

                                     PART I

                                                                            Page
                                                                            ----
Item 1   - Business                                                            3

Item 2   - Properties                                                         11

Item 3   - Legal Proceedings                                                  11

Item 4   - Submission of Matters to a Vote of
             Security Holders                                                 11

         - Executive Officers of the Registrant                               12

                                     PART II

Item 5   - Market For Registrant's Common Equity
             and Related Stockholder Matters                                  13

Item 6   - Selected Financial Data                                            14

Item 7   - Management's Discussion and Analysis of
             Financial Condition and Results of Operations                    15

Item 7A  - Quantitative and Qualitative Disclosures about
             Market Risk                                                      22

Item 8   - Financial Statements and Supplementary
             Data                                                             22

Item 9   - Changes in and Disagreements With Accountants
             on Accounting and Financial Disclosure                           22

                                    PART III

Item 10  - Directors and Executive Officers of
             the Registrant                                                   23

Item 11  - Executive Compensation                                             23

Item 12  - Security Ownership of Certain Beneficial
             Owners and Management                                            23

Item 13  - Certain Relationships and Related Transactions                     23

                                     PART IV

Item 14  - Exhibits, Financial Statement Schedules, and Reports on Form 8-K   24

<PAGE>


                                     PART I

Item  1. Business

General

     Tangram  Enterprise  Solutions,  Inc. (the "Company")  develops and markets
asset  tracking  software  and  software  distribution   solutions  that  enable
automated enterprise-wide  information system management. The Company markets to
Fortune 1000 companies and their foreign  equivalents and to government agencies
that are managing heterogeneous enterprises and mission-critical applications.

     The  following  discussion  contains  forward-looking  statements  that are
subject to risks and  uncertainties.  There are several  important  factors that
could cause actual results to differ  materially  from those  anticipated by the
forward-looking statements contained in the following discussion. Readers should
pay  particular  attention  to the risk factors set forth in this section and in
the section of this report  entitled  "Management's  Discussion  and Analysis of
Financial Condition and Results of Operations."

Background and Strategy

     The Company  believes that businesses are moving toward an  enterprise-wide
computing   environment   where  more  desktop   personal   computers   will  be
interconnected  into large  local-area  and wide-area  networks,  as well as the
Internet,  and administered by corporate MIS  departments.  The Company believes
that the  continued  expansion of  heterogeneous  computer  networks and current
downsizing  and  rightsizing  trends are forcing  businesses  to seek  automated
solutions for tracking and managing their enterprise-wide information technology
("IT")  assets.  The Company  believes this trend will continue and that its new
product, Asset Insight(R),  will enable the Company to attain a leading position
in the asset tracking market.

     Since  early  1996,  the  Company  has  focused  its  business on the asset
tracking  market and the launch of Asset  Insight.  Asset Insight is designed to
enable  corporations  to  proactively  manage their base of  distributed  assets
without  disruption to their business.  Asset Insight enables  organizations  to
automatically  track and analyze  their  entire base of  client/server  computer
hardware and software assets across  enterprises.  In 1997, the Company enhanced
Asset  Insight to include Year 2000  functionality,  enabling  organizations  to
address the Year 2000 problem in the distributed enterprise. Specifically, Asset
Insight allows organizations to assess their Year 2000 risk exposure,  calculate
the cost of correcting errant applications, manage their compliance initiatives,
monitor asset trends to ensure noncompliant  applications are being corrected on
time, and audit the enterprise to prevent Year 2000 problems from resurfacing.

     The Company is  committed to  maintaining  its  leadership  position in the
asset  tracking  market by  enhancing  Asset  Insight and related  products  and
continuing to add new products.  To further  extend the  applicability  of Asset
Insight,   the  Company   plans  to  pursue   technology   alliances,   bundling
opportunities and relationships with original equipment  manufacturers  ("OEMs")
of  complementary  hardware  and  software  products.  The  Company is  actively
pursuing relationships with other software vendors to create interfaces with the
Company's products. Technology partnerships allow the Company to integrate Asset
Insight with other software vendors'  applications and related products in areas
such  as  IT  asset  management  tools,  financial  accounting  systems,  system
management   offerings,   purchasing  systems  and  help  desk  systems.   These
relationships will allow the Company to provide a more comprehensive solution to
its  customers,  leverage the  customer's  investment  in existing  products and
maintain the Company's competitive edge in the asset tracking market.

     The Company maintains an active  development  program that is expanding the
utility of the Asset  Insight  product line  through  strategic  alliances,  new
product functionality and business subsystems. Product development efforts focus
on  providing  sophisticated  management  reports  and  subsystems  that  assist
companies  in  relating  their  IT  asset  information  to  business  goals  and
opportunities.  While the Company  expects the market's shift toward  enterprise
and Internet products to continue,  there can be no assurance that the Company's
Asset Insight products will be successful or will gain customer acceptance.


                                       3
<PAGE>


     The  Company  also  offers  AM:PM(R)  software,  which  provides  automatic
software   distribution,   data   distribution  and  data  collection  within  a
heterogeneous business environment.  The AM:PM product line was expanded in 1997
to include asset management capabilities through Asset Compass(TM), a technology
integration of Tangram's asset tracking  product,  Asset Insight,  and Tangram's
software distribution product, AM:PM.

     The Company  continues to service the needs of the traditional IBM customer
base with the Open  Advantage(R)  UNIX SNA  products  and  Arbiter(R).  The Open
Advantage  UNIX SNA products  enable  microcomputer  users to leverage  both the
local  capabilities of the microcomputer and the data and software  applications
on a mainframe using 3270 emulation.  Arbiter software enables Windows,  DOS and
OS/2  workstation  users to access  mainframe  data,  transfer files and perform
terminal emulation.

     The Company  continually  evaluates its products and corporate strategy and
has in the past and will in the  future  undertake  organizational  changes  and
product  and  marketing  strategy  modifications  that are  designed to maximize
market  penetration,  maximize  the use of limited  resources  and  develop  new
products and product channels. There can be no assurance that these efforts will
be  successful.  Further,  if the Company is  successful in achieving its growth
plans,  such  growth is likely to place a  significant  burden on the  Company's
operating  and  financial  systems,  resulting in increased  responsibility  for
senior management and other personnel within the Company.  The Company's ability
to manage such growth,  if it occurs,  will depend in part on the ability of its
officers and other key employees to implement and expand  operational,  customer
support  and  financial  control  systems.  There can be no  assurance  that the
Company's  existing  management or any new members of management will be able to
augment or improve  existing  systems and controls or implement  new systems and
controls in response to future  growth,  if any. The Company's  failure to do so
could  have a  material  adverse  effect on the  Company's  business,  operating
results and financial condition.

Products and Services

     The Company is structured into two separate  groups:  Enterprise  Solutions
and Consulting  Solutions.  The Enterprise  Solutions group focuses on the asset
tracking market and Asset Insight. The Consulting Solutions group focuses on the
traditional lines of business and develops customized solutions tailored to meet
customer requirements.

Enterprise Solutions

     Asset Insight,  launched in mid-1996,  delivers  business and  productivity
solutions  that  address the needs of major  corporations  as they manage  their
distributed computing asset base. Asset Insight, an information technology asset
tracking  product,  allows  businesses  to track  changes  in their  information
technology asset base (including hardware and software), forward plan technology
requirements,  and  optimize  end-user  productivity.  The  product  assists  in
calculating  the cost of software and  hardware  upgrades,  identifying  missing
hardware  components,  and resolving  desktop  problems  quickly.  Asset Insight
includes  an analysis  function  that  enables  organizations  to make  informed
decisions  about  their IT assets.  Asset  data is  automatically  gathered  and
distilled  into one-page  reports that highlight  exceptions,  costs and trends.
Asset  Insight  employs  an open  data  repository,  using  standard  relational
database technology that gives corporations access to their data.

     The Asset  Insight  Internet  Subsystem,  an add-on  component to the Asset
Insight   product,   was  also   introduced  in  1996.   With  this   subsystem,
decision-makers  can track Internet usage on an  enterprise-wide,  departmental,
and individual basis.  Internet page access, hourly usage, usage byte count, and
top sites  accessed  can be monitored  and tracked  over time,  assisting in the
formulation of Internet usage trends and company Internet policies.

     In  1997,  the  Company   enhanced  Asset  Insight  to  include  Year  2000
functionality,  enabling  organizations  to address the Year 2000 problem in the
distributed  enterprise.  Specifically,  Asset Insight allows  organizations  to
assess their Year 2000 risk  exposure,  calculate the cost of correcting  errant
applications,  manage  their  compliance  initiatives,  monitor  asset trends to
ensure  noncompliant  applications  are being  corrected on time,  and audit the
enterprise to prevent Year 2000 problems from resurfacing.



                                       4
<PAGE>

Consulting Solutions

     The  Consulting   Solutions  group  offers  consulting  and  implementation
services to major  corporations  designed to facilitate  deployment and maximize
the use of software  distribution  and asset  tracking  solutions.  In addition,
technology  offerings  from  the  consulting  group  include  Asset  Compass,  a
technology  integration of Tangram's asset tracking product,  Asset Insight, and
Tangram's software distribution  product,  AM:PM, together with a graphical user
interface that facilitates task management of distribution creation, scheduling,
and tracking functions.  Asset Compass is an enterprise-wide solution,  allowing
for  central  control of  distributions  and asset  information  while  allowing
end-users  some  amount  of  managed  choice  concerning  the  control  of their
desktops.  Service offerings include project  planning,  product  customization,
custom application development, implementation assistance and hands-on training.

     In  addition,  the  Consulting  Solutions  group  continues  to  offer  the
Company's  traditional  line of  products.  The AM:PM  family of  products is an
automated  software   distribution   solution,   allowing  companies  to  manage
heterogeneous  computer  resources  across the entire  enterprise.  AM:PM allows
companies with thousands of remote  workstations and servers to accomplish tasks
unattended.  Such tasks include software distribution,  distribution  scheduling
and tracking,  and data  distribution and collection.  AM:PM offers a variety of
connectivity  options for workstations,  LANs, and servers and supports numerous
operating  platforms,  including Solaris,  HP-UX, SCO OpenServer,  AIX, Windows,
Windows NT,  Windows 95, DOS, OS/2,  MVS,  NetWare,  and  Macintosh,  as well as
numerous communications protocols.

     The  Consulting   Solutions   group  also  offers   traditional   mainframe
connectivity  software  products that provide access to IBM SNA networks.  These
products enable companies to run a range of mainframe interface  applications at
high speed on multiple  workstation  platforms.  Arbiter  provides file transfer
capability and PC-to-mainframe connectivity, with an IBM mainframe used as a LAN
file server.  The Open Advantage  gateway product line provides  high-speed 3270
connectivity between mainframes and LANs.

Product Development

     Project teams handle product  development from  specification,  design, and
implementation  to product  release.  These  project teams operate as autonomous
units and include developers,  product managers from marketing,  quality control
managers,  and members of senior  management.  Each product and  enhancement  is
submitted  through a process that determines the  marketability  of the product,
revenue potential, development requirements, and support requirements.  Critical
technical  factors are also  considered in determining the viability of an Asset
Insight product or subsystem, such as scaleability, level of automation, ease of
use, support for multiple platforms, and open architecture.

     The majority of the Company's  products and associated  documentation  have
been developed internally.  The Company has acquired in the past, and intends to
continue to acquire, certain software technology from others and integrate those
technologies  into its product  lines.  The Company  expended  $5.0  million for
product  development costs in 1997,  compared with $3.4 million in 1996 and $3.1
million in 1995. In accordance with Statement of Financial  Accounting Standards
No. 86, the Company  capitalizes  certain development costs. During fiscal 1997,
1996, and 1995, the Company  capitalized  $1.8 million,  $2.2 million,  and $1.3
million,  respectively,  or 36%,  64%, and 41%,  respectively,  of total product
development  costs. No material  expenditures  were made in fiscal 1997, 1996 or
1995 for acquisition of software technology.

     The asset management  software and the application  suite offerings markets
are  highly   fragmented  and  are   characterized   by  ongoing   technological
developments,  evolving  industry  standards,  and  rapid  changes  in  customer
requirements.  The Company's  success  depends upon its ability to offer a broad
range of asset  tracking  software  products,  to continue  to enhance  existing
products,  to develop and  introduce in a timely  manner new products  that take
advantage of  technological  advances,  and to respond  promptly to new customer
requirements.  While the Company  believes that it currently offers the broadest
product in the asset  tracking  market,  this market is continuing to evolve and
customer  requirements  are  continuing  to change.  As the market  evolves  and
competitive  pressures  increase,  the  Company  believes  that it will  need to
further  expand its product  offerings.  The Company has  identified a number of
enhancements to its existing product offerings,  which it believes are important
to its continued success in the asset tracking market. Failure by the Company in
any of these areas could materially and adversely affect its business, financial
condition,  and  results of  operations.  In  addition,  from time to time,  the
Company or its  competitors  may announce new  products  with new or  additional

                                       5
<PAGE>

capabilities or technologies.  Such announcements of new products by competitors
could have the  potential to replace or shorten the life cycles of the Company's
existing  products  or to cause  customers  to defer  purchasing  the  Company's
products.

     In addition to developing new products,  the Company's internal development
staff is focused on developing upgrades and updates to existing products. Future
upgrades and updates may, among other things, include additional  functionality,
respond to user  problems,  or address  issues of  compatibility  with  changing
operating systems and environments.

     The  Company's  product  development  efforts  are  expected to continue to
require substantial  investments by the Company.  There can be no assurance that
the Company will have  sufficient  resources to make the necessary  investments.
The Company has in the past experienced development delays and may in the future
experience difficulties that prevent the successful  development,  introduction,
or  marketing of new or enhanced  products.  The  inability of the Company,  for
technological  or other  reasons,  to develop  and  introduce  new and  enhanced
products  in a  timely  manner  could  have a  material  adverse  effect  on the
Company's business, operating results and financial condition.

     Software  products  as complex as those  offered by the Company may contain
errors that may be detected at any point in a product's life cycle.  The Company
has in the past  discovered  software  errors in certain of its products and has
experienced delays in shipment of products during the period required to correct
these errors. There can be no assurance that, despite testing by the Company and
by current and potential customers,  errors will not be found, resulting in loss
of,  or  delay  in,  market  acceptance  and  sales,  diversion  of  development
resources, injury to the Company's reputation, or increased service and warranty
costs,  any of which  could  have a  material  adverse  effect on the  Company's
business, results of operations and financial condition.

Customer and Technical Support

     Customer support  representatives answer product inquiry,  customer support
and technical support calls, and respond to inquiries addressed to the Company's
Internet web page.  The Company  surveys its customer base to ensure  quality of
service. Historically, license renewals have accounted for a significant portion
of the  Company's  net  revenues;  however,  there can be no assurance  that the
Company  will be able to  sustain  historic  renewal  rates in the  future.  The
Company intends to continue to invest in customer and technical support.

     The   Company   offers   training   courses  in  the   implementation   and
administration of its products.  On a periodic basis, the Company offers product
training at its facility in Cary,  NC for customers  and channel  partners.  The
Company also offers on-site training and consulting services to its customers on
an hourly or packaged rate basis.

     The  Consulting  Solutions  group also  offers  project  planning,  product
installation services,  customized application development, and hands-on product
training.  Other services  include  24-hour  support  coverage for all products,
on-site problem resolution, and improved high-speed telecommunication links with
our worldwide customers.

Customers

     The  customer  base is  composed of large,  Fortune  1000  enterprises  and
government   agencies   that  are   managing   heterogeneous   enterprises   and
mission-critical  applications. The Company's customers are located primarily in
North America and Europe and include companies in industrial, institutional, and
governmental  markets.  The Company operates in a single industry and is engaged
in design and sale of a limited number of software  products.  Approximately 10%
and 17% of the Company's 1997 and 1996 sales, respectively,  were made to single
customers.  No single  customer  accounted  for more  than 10% of total  product
revenues in 1995.

Sales and Marketing

Sales

     Early  in  the  definition  of  the  Asset  Insight  product,  the  Company
recognized  the need for an  alternate  channel  in  order to  acquire  an early
presence in the market,  cover the expected  demand for the product,  manage 


                                       6
<PAGE>

the  geographically  dispersed  nature of the target  market,  and build a large
number of  salespeople in the field.  Therefore in 1996,  the Company  converted
from a direct sales force to an indirect sales channel organization. The Company
began the  implementation  by focusing on a single  large  value-added  reseller
("VAR"), CompuCom Systems, Inc. The reseller agreed to assist the Company in the
development of the indirect channel program.  The efforts with CompuCom have now
been duplicated in relationships with over twenty-five  national,  international
and regional value-added resellers, system integrators and IT service providers.
The Company  employs an indirect  sales force that works  closely with its major
resellers  and systems  integrators  to manage the  development  of the indirect
channel and product implementation. The indirect sales channel is managed out of
the corporate headquarters.

     The  Company is  currently  investing  and  intends to  continue  to invest
significant  resources in developing  additional  sales and  marketing  channels
through VARs, system integrators, OEMs and other channel partners. These channel
partners also sell other  products that are  complementary  to, or compete with,
those of the Company. While the Company encourages its channel partners to focus
on their respective  products through marketing and support programs,  there can
be no assurance  that these channel  partners will not give greater  priority to
products of other  suppliers,  including  competitors.  Channel partners have no
long-term  obligations to purchase products from the Company. Any failure by the
Company to establish and maintain  such  distribution  relationships  or attract
channel partners that will be able to market the Company's products  effectively
and will be qualified to provide timely and cost-effective  customer support and
service  could  have  a  material  adverse  effect  on the  Company's  business,
operating results and financial condition.

     The license of the  Company's  software  generally  requires the Company to
engage in a sales cycle that typically takes approximately six to nine months to
complete.  The  length of the  sales  cycle  may vary  depending  on a number of
factors over which the Company may have little or no control, including the size
of the transaction and the level of competition  that the Company  encounters in
its selling activities. During the sales cycle, the Company typically provides a
significant  level of education and support to prospective  customers  regarding
the use and  benefits of the  Company's  products.  Because of the nature of its
distribution  methods, the Company generally cannot predict with accuracy when a
user will license its products. Any delays in the sale cycles of a large license
or a number of smaller  licenses  could have a  material  adverse  effect on the
Company's business, operating results and financial condition.

     The Consulting  Solutions group sells through a direct channel. The primary
focus of the direct  channel is the Company's  AM:PM and related asset  tracking
products,  which  are  sold  directly  to  large  multi-location  firms  using a
combination of telesales and in-person  contacts at the customer  location.  The
direct  channel  for  the  Consulting  Solutions  group  is  managed  out of the
corporate headquarters.

     In late 1995,  the Company began  building its  international  distribution
channels through a network of independent  distributors in major markets outside
North America.  International sales represented approximately 14%, 8% and 14% of
the Company's  total revenues in fiscal 1997, 1996 and 1995,  respectively.  The
Company   currently  has  no   international   office,   but  operates   through
international distributors.  The Company believes that its continued growth will
require  continued  expansion of its international  operations,  particularly in
Europe and the  Pacific  Rim.  Accordingly,  the  Company  intends to expand its
international  operations and enter additional international markets, which will
require significant management attention and financial resources.

Marketing

     During 1997,  the Company  focused its  marketing  efforts on
continuing to build the asset  tracking  market,  educating  the  market
on the Asset  Insight product,  and generating  Asset Insight leads. The
marketing  organization  has continued to build upon its successful
corporate marketing strategy, emphasizing the  position  that Asset
Insight has  attained as the premier  offering in the asset tracking
market. The marketing  organization has also implemented a number of
enhanced  programs,  including  speaking  engagements,  executive
briefings, industry trade shows, surveys, and public relations efforts.
The book, "A Journey Through Oz: The Business  Leaders' Road Map to
Tracking  Information  Technology Assets",  written by the  Company
President  and CEO,  has proven to be a useful marketing tool.  Efforts
in defining the market and creating  product  awareness have laid the
groundwork for the indirect sales channel efforts.

     In 1997,  the  Company  added  Year 2000  functionality  to Asset  Insight,
assisting  organizations as they identify their risks and manage their Year 2000
compliance efforts in the distributed enterprise.  The Company


                                       7
<PAGE>

President  and  CEO  wrote  a second  book, "Teaching  Chipmunks  to  Dance: The
Business   Leaders'  Guide  to  Making  the  Distributed  Enterprise  Year  2000
Compliant".  This book is supporting the Company's Year 2000 marketing effort.

     The Company will continue to focus on generating  interest in order to move
the product through the established  sales channel.  In cooperation with channel
partners,  the Company  will move toward more  targeted  and active  promotional
campaigns  aimed at  Fortune  1000 and  government  end users  throughout  North
America and Europe.

     The Company's  marketing  strategy  focuses on positioning  its products as
market-driven business solutions that improve corporate  productivity,  leverage
customer information systems  investments,  assist customers in the migration to
new technologies,  and provide a superior  value-to-price  ratio. To ensure that
the products  reflect the changing  market  requirements,  all of the  Company's
product development efforts are integrated with marketing and other functions in
a team approach (see Product Development).

Customer  requests for  enhancements to current  products and the development of
new  products  play a  significant  role  in  the  Company's  product  marketing
strategy.  Senior management teams make regular customer visits to gain customer
feedback. The Company also conducts regular customer surveys to evaluate overall
customer satisfaction, as well as future product needs.

Competition

     The Company  established  asset tracking in response to an asset management
market, which can be anything from a procurement system, to a network management
solution, to a help desk tool, to a suite of products comprised of several "best
of breed" solutions.  There are several vendors in the asset management  market,
creating  confusion and overlap  between  products.  The Company has  positioned
asset tracking as a fundamental  first step to any asset management  initiative.
While this positioning has been  successful,  Asset Insight has experienced some
marginal overlap with  complementary  products that fall into different segments
of the asset  management  arena.  Such products are very  diverse,  ranging from
low-end discovery tools (such as Tally's NetCensus, Intel's LANDesk, and Network
Associates' Site Inventory) to Discovery/Ownership Management tools with modules
for tracking procurement,  contracts,  licenses,  and other information (such as
Asset Software  International's (ASI) AssetPro,  and Apsylog's Asset Manager) to
full product  suites with a long list of features  (such as IBM Tivoli's TME 10,
Microsoft's SMS, and Computer Associates' Unicenter).  Asset Insight remains the
only product that is exclusively in the asset tracking market, where we maintain
a strong competitive  advantage in functionality and features.  Because barriers
to entry in the software  market are  relatively  low,  the Company  anticipates
additional  competition  from other  established  and emerging  companies as the
market for asset tracking and asset management tools expand.

     In the future,  vendors of asset management  software or application  suite
offerings,  such as those  identified  above,  may  continue  to  enhance  their
products  (including  separate  products  that are bundled  together) to include
functionality  that is  currently  provided  most  often by asset  tracking  and
low-end  discovery tool software.  The widespread  inclusion of such  comparable
functionality  could impair the  marketability  of the  Company's  Asset Insight
products.  Furthermore,  even if the asset  tracking  functionality  provided as
standard features by asset management software or application suite offerings is
more limited than that of the Company's Asset Insight products,  there can be no
assurance that a significant  number of customers would not elect to accept such
functionality in lieu of purchasing additional software.

     The Company expects software industry consolidation to occur in the future,
and it is possible  that new  competitors  or alliances  among  competitors  may
emerge and rapidly acquire significant market share.  Increased  competition may
result in price  reductions,  reduced  gross  margins and loss of market  share.
Further,  the Company  competes with other software  companies for access to the
channels  of  distribution.  Some  of the  Company's  current  and  many  of its
potential   competitors  have  significantly   greater   financial,   technical,
marketing,  and other resources than the Company.  As a result, they may be able
to respond more quickly to new or emerging  technologies and changes in customer
requirements or to devote greater resources to the development,  promotion,  and
sale of their products than the Company.  Although the Company  believes that it
currently  competes  favorably  with  respect to such  factors,  there can be no
assurance that the Company will maintain its competitive position.



                                       8
<PAGE>

     In  the  electronic  software  distribution  ("ESD")  market,  the  Company
competes with large software companies that offer systems management  solutions,
that include ESD as an ancillary component.  The Company is distinguished by its
offering  of a fully  integrated  ESD and asset  tracking  solution,  as well as
comprehensive  consulting  services.  Many of the Company's actual and potential
competitors in this market have substantially greater financial,  marketing, and
technological  resources  than  the  Company.  The  Company  believes  that  the
principal  competitive  factors in the industry segment are the compatibility of
products with the customers' computer hardware and software, ease of use, price,
and the  substantial  base of  technology  that is required to join together the
various  platforms  in  today's  heterogeneous   enterprises.   The  quality  of
documentation, customer support and installation, and the ability of a family of
products to work together effectively are additional factors.

Intellectual Property

The Company's  success is in part dependent  upon  proprietary  technology.  The
Company  relies  primarily on a combination  of copyright  and  trademark  laws,
confidentiality   procedures,   and   contractual   provisions  to  protect  its
proprietary  rights.  The Company's products are generally licensed to end users
pursuant to a license  agreement  that  restricts  the use of the  products to a
limited number of control point processors and/or a designated site or a limited
number of nodes. The Company does not allow the source code to be distributed to
customers  for the AM:PM  products.  The Company has been  required from time to
time to enter into source code escrow  agreements  with  certain  customers  and
distributors for certain of its products.  These agreements  require the release
of source code only under very limited  circumstances,  principally  a breach by
the Company of its support  obligations or a filing of  bankruptcy.  The Company
seeks to protect its software,  documentation, and other written materials under
trademark and copyright  laws,  which provide only limited  protection.  Despite
precautions  taken by the  Company,  it may be possible for  unauthorized  third
parties to copy  aspects of its current or future  products or to obtain and use
information  that the Company regards as proprietary.  There can be no assurance
that the Company's means of protecting its  proprietary  rights will be adequate
or that the Company's  competitors  will not  independently  develop  similar or
superior  technology.  In addition,  the laws of some  foreign  countries do not
protect the  Company's  proprietary  rights to the same extent as do the laws of
the United States.

     There has also been substantial industry litigation regarding  intellectual
property  rights of technology  companies.  The Company is not aware that any of
its  software  product  offerings  infringes  the  proprietary  rights  of third
parties. In addition,  as the Company may acquire a portion of software included
in future products from third parties,  its exposure to infringement actions may
increase  because the Company must rely upon such third parties as to the origin
and ownership of any software being acquired.  In the future,  litigation may be
necessary  to enforce  and protect  intellectual  property  rights  owned by the
Company.  The  Company  may also be subject to  litigation  to defend it against
claimed  infringement  of the  rights of others  or to  determine  the scope and
validity  of the  proprietary  rights of others.  Any such  litigation  could be
costly and divert management's attention,  either of which could have a material
adverse effect on the Company's business,  financial  condition,  and results of
operations.  Adverse  determinations in such litigation could result in the loss
of  the  Company's  proprietary  rights,  subject  the  Company  to  significant
liabilities, require the Company to seek licenses from third parties, or prevent
the Company  from selling its  products,  any one of which could have a material
adverse effect on the Company's business,  financial  condition,  and results of
operations.  Furthermore,  there can be no assurance that any necessary licenses
will be available on reasonable terms, or at all.

     The Company believes that patent,  trade secret,and copyright protection is
less  significant  than factors such as  knowledge,  experience of the Company's
personnel, new products,  frequent product enhancements,  name recognition,  and
ongoing, reliable product maintenance.

     Asset  Insight,  AM:PM,  Arbiter,  Tangram,  and  the  Tangram  puzzle  are
registered trademarks of Tangram Enterprise  Solutions,  Inc. Other products and
brand names may be trademarks of their respective holders.

Employees

     As of March 23, 1998,  the Company  employed  136 persons,  including 52 in
worldwide marketing,  sales, and field operations; 66 in product development and
technical support;  and 18 in general and administrative.  None of the Company's
employees are represented by a labor union.  The Company has experienced no work
stoppages and believes that its employee relations are good.



                                       9
<PAGE>

     The Company  believes that its future  success will depend in large part on
its ability to attract and retain  additional highly skilled  technical,  sales,
management,  and  marketing  personnel.  Competition  for such  personnel in the
computer software industry is intense,  and the Company has at times in the past
experienced difficulty in recruiting qualified personnel. New employees hired by
the Company generally require substantial training in the use and implementation
of the  Company's  products.  In  particular,  a number of the  Company's  sales
personnel  have been with the Company for only a limited  period of time.  There
can be no assurance that the Company will be successful in attracting, training,
and  retaining  qualified  personnel,  and the  failure  to do so  could  have a
material  adverse  effect on the  Company's  business,  operating  results,  and
financial condition.


                                       10
<PAGE>

Item  2. Properties

     The Company leases all of its  facilities.  The following  table sets forth
summary data on the Company's leased facilities:

<TABLE>
<CAPTION>
     Location         Approximate Square Feet                 Use                     Lease Expiration
     --------         -----------------------                 ---                     ----------------

<S>                           <C>                <C>                                 <C> 
Cary, NC                      49,600               Executive, administrative,        September 30, 2004
                                                 sales, development, marketing,
                                                      customer support, and
                                                       distribution center

Malvern, PA                    7,400             Sales, development, marketing        February 28, 2000
                                                       and customer support

Regional Office                1,000                         Sales                      July 31, 1998
</TABLE>


Item  3. Legal Proceedings

     On February  20, 1998,  the Company  filed a complaint  against  State Farm
Mutual Automobile Insurance Company ("State Farm") in the United States District
Court for the Eastern  District of North  Carolina.  The complaint seeks damages
from State Farm in the amount of  $1,116,000  due to State Farm's  breach of its
obligations  to the Company  under a software  licensing  agreement due to State
Farm's  failure to pay for software  products sold and delivered by the Company.
The complaint also asks for a declaratory judgment declaring that the Company is
not in  default  of any  warranty  obligations  owed to  State  Farm  under  the
agreement  and that State Farm is not  entitled to any  payments or refunds from
the  Company.  The Company  continues  to seek a  negotiated  resolution  of the
dispute and will continue this  litigation only if those attempts at negotiation
prove  unsuccessful.  While it is  impossible  to predict with any certainty the
outcome  of the  litigation  if  pursued,  the  Company  believes  that there is
substantial merit to its claims.

     There are no other material pending legal  proceedings to which the Company
is a party or of which any of its property is subject.



Item  4. Submission of Matters to a Vote of Security Holders

     None.


                                       11
<PAGE>

                             Additional Information

     The  following  information  is  furnished  in  this  Part  I  pursuant  to
Instruction 3 to Item 401(b) of Regulation S-K:

                      Executive Officers of the Registrant

     The following  persons were executive  officers of the Company at March 23,
1998:

     Name                         Age        Position
     ----                         ---        --------

     W. Christopher Jesse         47         President, Chief Executive Officer
                                             and Director

     Nancy M. Dunn                49         Senior Vice President,
                                             Tangram Enterprise Solutions, Inc. 
                                             and President, Tangram Consulting
                                             Solutions Division

     Steven F. Kuekes             39         Senior Vice President, Chief 
                                             Technology Officer and Director

     John N. Nelli                40         Senior Vice President and Chief 
                                             Financial Officer

     W. Christopher Jesse has served as President,  Chief Executive Officer, and
a director of the Company since October  1993.  From March 1990 until  September
1993, Mr. Jesse served as President,  Chief Executive Officer, and a director of
Tangram Systems.

     Nancy M. Dunn served as the  Company's  Vice  President  of Finance,  Chief
Financial Officer,  and Assistant  Secretary since October 1993 and was promoted
to her current  position in January 1997.  Ms. Dunn served as Vice  President of
Finance of Tangram Systems from April 1990 through September 1993.

     Steven F. Kuekes has served as the Company's  Senior Vice President,  Chief
Technology Officer, and as a director since October 1993. Mr. Kuekes also served
as Vice  President of Enterprise  Computing  Products and Services from November
1994 until December 1995. Mr. Kuekes was a founder of Tangram Systems and served
as Vice  President of Product  Development  and  Technology and as a director of
Tangram Systems from 1988 until September 1993.

     John N.  Nelli  joined  the  Company  as Senior  Vice  President  and Chief
Financial Officer in February 1997.  Before joining the Company,  Mr. Nelli held
various positions at FAC Realty,  Inc., a publicly traded real estate investment
trust,  from February 1995 to January 1997,  including Chief Financial  Officer,
Senior Vice President - Finance,  Chief Accounting Officer, and Treasurer.  From
September 1993 to June 1994, Mr. Nelli served as the Chief Financial  Officer of
Litchfield Theatres,  Ltd., a regional motional picture exhibitor and developer.
Prior to September 1993, Mr. Nelli served as interim President and a director of
Natter Manufacturing,  Inc., a precision sheetmetal  manufacturer,  a company he
joined as Chief  Financial  Officer in 1989.  Mr.  Nelli is a  certified  public
accountant.


                                       12
<PAGE>

                                     PART II

Item 5. Market For Registrant's Common Equity and Related Stockholder Matters

     (a) The Company's common stock is quoted on The Nasdaq SmallCap Market tier
of The Nasdaq Stock Market under the symbol "TESI".  Prior to June 12, 1996, the
Company's  common  stock was quoted in the  over-the-counter  market in what are
commonly  referred to as the "pink sheets".  The following  table sets forth the
high and low bid  quotations  of the  Company's  common stock from June 12, 1996
through December 31, 1997 as reported on the National  Association of Securities
Dealers,  Automated  Quotations  System  ("Nasdaq"),  and the  high  and low bid
quotations  from January 1, 1996 through June 11, 1996 as provided by the market
makers of the Company's common stock.



     1997                            High                        Low
     ----                            ----                        ---

     Fourth Quarter                 $8.50                      $5.38
     Third Quarter                  $9.38                      $5.50
     Second Quarter                 $7.63                      $4.50
     First Quarter                  $8.38                      $4.50

     1996

     Fourth Quarter                 $8.50                      $4.88
     Third Quarter                 $13.50                      $5.75
     Second Quarter                $17.88                      $2.00
     First Quarter                  $2.63                      $1.25

     The high and low bid  quotations  for the  Company's  common  stock for the
period  covered above,  reflect  inter-dealer  prices  without  retail  mark-up,
mark-down, or commission and may not necessarily represent actual transactions.

     (b) Holders.  On March 23, 1998, there were approximately  3,000 beneficial
owners of the Company's common stock.

     (c)  Dividends.  Holders of the common  stock are  entitled to receive such
dividends as may be declared by the Company's  Board of Directors.  No dividends
on the common stock have been paid by the Company. The Company intends to retain
all future earnings for the expansion of its business and consequently  does not
presently intend to pay cash dividends on its common stock.


                                       13
<PAGE>

Item  6. Selected Financial Data

     The following selected financial data of the Company have been derived from
the  Company's  audited  financial  statements.  This  data  should  be  read in
conjunction with  "Management's  Discussion and Analysis of Financial  Condition
and  Results  of  Operations"  included  in Item 7 of this  report  and with the
Company's financial  statements and the related notes thereto included in Item 8
of this report.

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
                                                                                  Year Ended December 31
                                                         1997             1996             1995              1994             1993
                                                         ----             ----             ----              ----             ----
Summary of Operations:                                                   (In thousands, except per share data)

<S>                                                    <C>              <C>              <C>              <C>              <C>     
Revenues                                               $ 14,074         $ 11,142         $ 12,538         $ 12,778         $ 13,733
Net loss (1)                                             (3,461)            (253)          (1,185)            (599)            (226)
Net loss per common share -                               (0.22)           (0.02)           (0.08)           (0.04)           (0.06)
basic and diluted (2)
Average common shares                                    15,631           14,811           14,459           14,216           13,942
outstanding - basic and
diluted

<CAPTION>
                                                                                        December 31
                                                         1997             1996             1995              1994             1993
                                                         ----             ----             ----              ----             ----
Financial Position:                                                                   (In thousands)
<S>                                                    <C>              <C>              <C>              <C>              <C>     
Total assets                                           $ 12,961         $ 12,946         $ 12,829         $ 15,048         $ 15,787
Long-term debt, including                                 3,044              756            1,319            1,472             --
current portion
Shareholders' equity (3)                                  4,483            8,257            8,246            9,368           10,715
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>

(1)  One-time   charges  for  purchased   research  and   development   expenses
     (associated  with the acquisition of Knozall Systems,  Inc.) of $1,253,  or
     $0.09  per  share,  are  included  in the  1994  results,  and  merger  and
     restructuring  expenses of $2,500,  or $0.18 per share, are included in the
     1993 results.

(2)  Net loss per common share in 1993 is after  dividends on preferred stock of
     $570. No dividends were paid in 1997, 1996, 1995 or 1994.

(3)  The increase in  shareholders'  equity in 1993 includes the contribution to
     capital  of a $5,400  note from the  Company  to  Safeguard  and  $3,300 of
     additional paid-in capital resulting from the merger.



                                       14
<PAGE>


Item  7.   Management Discussion and Analysis of Financial Condition and 
           Results of Operations

     This Annual Report on Form 10-K contains  forward-looking  statements  that
involve risks and uncertainties.  The statements contained in this Annual Report
on Form 10-K that are not  purely  historical,  are  forward-looking  statements
within the meaning of Section 27A of the  Securities  Act and Section 21E of the
Exchange Act,  including without limitation  statements  regarding the Company's
expectations,  beliefs,  intentions,  or strategies  regarding  the future.  All
forward-looking statements included in this Annual Report on Form 10-K are based
on  information  available  to the Company on the date  hereof,  and the Company
assumes  no  obligation  to  update  any such  forward-looking  statements.  The
Company's actual results could differ materially from those anticipated in these
forward-looking  statements as a result of a number of factors,  including,  but
not  limited  to,  those set forth in this  section  and in the  section of this
report entitled "Item 1. Business."

Overview

     Tangram    Enterprise    Solutions,    Inc.   (the   "Company")    provides
state-of-the-art   enterprise-wide  solutions,   including  asset  tracking  and
electronic software distribution for large heterogeneous computing environments,
encompassing  mainframe,  UNIX-based  mini,  and  LAN  server  platforms.  Asset
Insight,  an information  technology  asset tracking  product  launched in 1996,
allows  businesses to track changes in their  information  technology asset base
(including  hardware  and  software),   forward  plan  technology  requirements,
optimize end-user productivity,  and calculate the cost of software and hardware
upgrades.  AM:PM  is  the  Company's  industry-leading  solution  for  automated
software  distribution,  data  distribution and collection,  and remote resource
management.  AM:PM, along with expert consulting  services,  provides businesses
with solutions to manage an enterprise's  heterogeneous  and remote  information
technology  systems.  Asset  Compass  is  a  fully  automated,   enterprise-wide
electronic software  distribution solution that creates a standardized work flow
process across  multiple  platforms and is integrated  with Asset  Insight.  The
Company is a member of the Safeguard Scientifics, Inc. ("Safeguard") partnership
of companies.  Safeguard  supports  technology-driven  growth  companies with an
emphasis on information system markets.  Safeguard owns approximately 67% of the
Company.

     The Company  believes that businesses are moving toward an  enterprise-wide
computing   environment   where  more  desktop   personal   computers   will  be
interconnected  into large  local-area  and wide-area  networks,  as well as the
Internet,  and administered by corporate MIS  departments.  The Company believes
that the  continued  expansion of  heterogeneous  computer  networks and current
downsizing  and  rightsizing  trends are forcing  businesses  to seek  automated
solutions for tracking and managing their enterprise-wide information technology
assets.  The Company  believes  this trend will  continue and that Asset Insight
will  enable the  Company  to attain a leading  position  in the asset  tracking
market.  While the Company  expects the  market's  shift toward  enterprise  and
Internet  products to  continue,  there can be no assurance  that the  Company's
Asset Insight products will be successful or will gain customer acceptance.

     The Company has historically experienced a certain degree of variability in
its  quarterly  revenue and earnings  patterns.  This  variability  is typically
driven by  significant  events  that  impact  the  recognition  of  product  and
implementation service revenues.  Examples of such events include: the timing of
major  enterprise-wide  sales  of the  new  Asset  Insight  product;  "one-time"
payments  from  existing  customers for license  expansion  rights  (required to
install on a larger or an additional  computer  base);  completion  and customer
acceptance  of  significant  implementation  rollouts  and the  related  revenue
recognition;  budgeting cycles of its potential customers; changes in the mix of
software   products  and  services  sold;  the   cancellations  of  licenses  or
maintenance agreements; software defects and other product quality problems; and
personnel changes.  Additionally, the Company has often recognized a substantial
portion of its  revenues  in the last month or weeks of a quarter.  As a result,
license revenues in any quarter are substantially dependent on orders booked and
shipped  in the  last  month  or weeks  of that  quarter.  Due to the  foregoing
factors,  quarterly  revenues and operating results are not predictable with any
significant  degree of accuracy.  Additionally,  fluctuations  in the timing and
amounts  of  additional  operating  expenses  may also  cause  profitability  to
fluctuate  from one  quarter to  another.  Also,  during a  significant  product
launching,  such as the Asset Insight product,  increases in sales and marketing
and general and  administrative  expenses will occur prior to the realization of
incremental  revenues.  Historically,  renewals have accounted for a significant
portion of the Company's net revenue,  however,  there can be no assurance  that
the Company will be able to sustain current renewal rates in the future.



                                       15
<PAGE>

     Many currently  installed  computer systems and software products are coded
to accept only two-digit entries in the date code field.  These date code fields
will need to accept  four-digit  entries to distinguish  21st century dates from
20th century dates. As a result, in less than two years, computer systems and/or
software  used by many  companies  may need to be  upgraded  to comply with such
"Year  2000"  requirements.  Significant  uncertainty  exists  in  the  software
industry  concerning  the potential  effects  associated  with such  compliance.
Although Asset Insight includes Year 2000 analyses that enable  organizations to
assess at-risk assets, determine the cost of correcting at-risk software, manage
the  correction  process,  and audit the  enterprise to ensure  problems are not
re-emerging,  the Company believes that the purchasing patterns of customers and
potential  customers  may be affected by Year 2000 issues.  Many  companies  are
expending  significant  resources to correct their current  software systems for
Year 2000 compliance.  These  expenditures may result in reduced funds available
to purchase software products such as those offered by the Company.

     Since early  1996,  the Company  has  refocused  its  business on the asset
tracking market and the launch of its new Asset Insight  product.  The financial
results of the Company  hereafter  reflect the Company's  growing  dependence on
revenues  generated by sales of Asset  Insight.  As a result,  various risks and
uncertainties  relating to the  development of the asset  tracking  business may
cause the  Company's  actual  results  to  differ  materially  from the  results
contemplated.  Such uncertainties include the ability of the Company to sell its
new  Asset  Insight   product  to  major  accounts  with  full   enterprise-wide
deployment,  the  reliability  of the  Asset  Insight  product  to work in major
corporate   enterprises,   the  possibility  of  the  introduction  of  superior
competitive  products,  the length of time  required  for the Company to realize
sufficient revenue from sales of the product through the reseller sales channel,
the  ability  of the  Company  to absorb  the  increase  in sales and  marketing
expenses and other operational  expenses of launching the Asset Insight product,
the length of time required to develop a sustainable  stream of revenue from the
sale of the Asset Insight product,  the ability to recruit key technical,  sales
and  marketing  personnel,  and the  ability of the  Company to secure  adequate
financing on reasonable terms or at all.


Results of Operations

Net Revenues

     Net revenues  increased  26% to $14.1 million in 1997 from $11.1 million in
1996. The revenue  increase was driven by a 34% increase in licenses and product
revenues in 1997  primarily as a result of $3.8 million of Asset  Insight  sales
offset by a decrease in AM:PM and traditional  mainframe product  revenues.  Net
revenues in 1996 decreased 11% from $12.5 million in 1995. This decrease was due
primarily  to a decrease  in  consulting  services  revenues  as a result of the
decline  in AM:PM  and  traditional  mainframe  product  sales  and the  related
decrease in demand for high-level consulting skills and implementation  services
by users of these products.

     Licenses and product revenues,  which include product upgrades and add-ons,
increased  34% in 1997 to $8.0  million  from  $6.0  million  in  1996.  Product
revenues  of the new  Asset  Insight  product,  which  was  first  sold in 1996,
contributed $3.8 million in 1997 compared to $1.4 million in 1996.  Revenue from
Asset Insight  represented  47% of total  licenses and product  revenues in 1997
compared  to 24% in 1996.  Revenue  from AM:PM and  related  products  decreased
slightly to $1.3 million in 1997 from $1.4  million in 1996.  Revenue from AM:PM
and  related  products  represented  17% of  total  1997  licenses  and  product
revenues, down from 24% in 1996. Revenues from the traditional mainframe product
lines, including gateways and Arbiter, increased 3% to $2.9 million in 1997 from
$2.8 million in 1996.  This product line  represented  36% of 1997  licenses and
product revenues,  down from 47% in 1996. As a percentage of total revenues, the
decrease  in AM:PM and  traditional  mainframe  product  revenues  reflects  the
Company's  decision to allocate more resources  toward the Asset Insight product
line and the continued decrease in overall demand in the mainframe  connectivity
market.

     In 1996,  licenses and product  revenues  increased 6% to $5.9 million from
$5.6 million in 1995.  Licenses and product  revenues for the new Asset  Insight
product  were $1.4  million  in 1996,  which  represented  24% of total  product
revenues.  Revenue from AM:PM and related products decreased 27% to $1.4 million
in 1996 from $1.9 million in 1995. As a percentage  of total  product  revenues,
AM:PM and related products  revenues  decreased to 24% in 1996 from 34% in 1995.
Traditional   mainframe  product  revenues,   including  gateways  and  Arbiter,
decreased  5% in  1996  to  $2.8  million  from  $3.0  million.  These  products
represented 47% of total

                                       16
<PAGE>

product  revenues  in 1996  compared to 53% in 1995.  The  decrease in AM:PM and
traditional  mainframe  product  revenues  was  due  primarily  to  the  ongoing
reallocation  of resources  toward the launch of the Asset Insight  product line
and  reflects  the  continued  decrease  in  overall  demand  in  the  mainframe
connectivity market.

     International   sales   (including   maintenance   contracts)   represented
approximately  14% and 8% of the  Company's  total  revenues  in fiscal 1997 and
fiscal 1996,  respectively.  To date, international revenue has been denominated
in United States currency and the Company has not otherwise experienced material
adverse  effects  associated  with doing  business  overseas.  If the  Company's
international  sales  continue  to grow,  the  Company  will be exposed to risks
inherent with international revenue. Some of the risk factors include the impact
of longer payment cycles,  greater difficulty in accounts receivable collection,
and  unexpected  changes  in  regulatory  requirements  and  tariffs.  If future
international  sales are denominated in local  currency,  there is an additional
risk associated with fluctuating exchange rates.

     Service  revenues  include  software  and hardware  maintenance  contracts,
implementation services, and training and support services not otherwise covered
under maintenance agreements.  Service revenues increased by 18% to $6.1 million
in 1997 from $5.2  million  in 1996  primarily  as a result  of an  increase  in
implementation  services and maintenance  revenues associated with the increased
sales of the Asset Insight product.

     In 1996,  service  revenues  decreased  by 25% to $5.2  million  from  $6.9
million in 1995. The decrease in service  revenues was primarily a result of the
decline  in AM:PM  and  traditional  mainframe  product  sales  and the  related
decrease in demand for high-level consulting skills and implementation  services
by users of these products.

Cost of Revenues

     Cost of revenues includes costs principally  related to the distribution of
licensed  software and hardware  products and the  amortization  of  capitalized
software  development  costs.  Cost of revenues  also  reflects  the cost of the
direct labor force, including the associated personnel,  travel and subsistence,
and  occupancy  costs  incurred in  connection  with  providing  consulting  and
maintenance   services.   A  significant   component  of  cost  of  revenues  is
attributable to the amortization of deferred development cost, which is fixed in
nature. Therefore, as a result of higher revenues in 1997, cost of revenues as a
percentage  of total  net  revenues  decreased  to 25% in 1997 from 33% in 1996.
Additionally,  amortization of deferred  development costs in 1996 reflected the
accelerated amortization of approximately $287,000 of deferred development costs
of non-strategic  products.  In 1997, cost of revenues decreased to $3.5 million
from $3.7 million in 1996 as a result of the accelerated  amortization described
above and changes in the product mix.

     Cost of revenues  decreased  to $3.7  million in 1996 from $3.8  million in
1995 due to changes in product mix offset by the higher amortization of deferred
development  expense in 1996.  As a percentage  of total net  revenues,  cost of
revenues increased to 33% in 1996 from 30% in 1995.

Sales and Marketing Expenses

     Sales and marketing expenses consist principally of salary, commissions and
benefits for sales,  marketing,  and channel  support  personnel,  and the costs
associated with product promotions and related travel.  With the introduction of
Asset Insight,  the Company converted from a direct sales channel to an indirect
sales  organization  for  the  distribution  of  this  product.   By  developing
relationships with resellers, systems integrators, and other third-party vendors
that provide consulting and integration  services and deliver products developed
for this market,  the Company seeks to acquire an early  presence in the market,
cover the expected demand for the product,  manage the geographically  dispersed
nature of the target  market,  and build a large  number of  salespeople  in the
field. As such,  sales and marketing  expenses  increased 61% to $6.6 million in
1997 from $4.1 million in 1996. Sales and marketing expenses also increased as a
percentage  of  revenue  to 47% in 1997  from 37% in 1996.  The  increases  were
primarily  due to the  Company's  investment  in sales and  marketing  staff and
increased travel costs to promote market awareness of the Asset Insight product.
The number of sales and marketing  personnel  doubled during 1997,  enabling the
Company to develop an indirect sales network and to focus on defining the market
for the Asset Insight product. During 1997, the Company has developed


                                       17
<PAGE>

relationships  with  twenty  additional  resellers  for the  marketing  of Asset
Insight.  The Company is currently  investing  and intends to continue to invest
significant  resources in developing  additional  sales and  marketing  channels
through value-added resellers ("VARs"),  system integrators,  original equipment
manufacturers  ("OEMs"),  and other channel partners.  There can be no assurance
that the Company will be able to attract  channel  partners that will be able to
market the  Company's  products  effectively  and will be  qualified  to provide
timely and  cost-effective  customer  support  and  service.  Any failure by the
Company to establish and maintain such distribution  relationships  could have a
material  adverse  effect  on the  Company's  business,  operating  results  and
financial condition.

     In 1996,  sales and marketing  expenses  decreased 11% to $4.1 million from
$4.6 million in 1995.  Excluding the cost  associated with the LAN division that
was sold in March 1996,  total selling and marketing  expenses  increased 16% in
1996 from 1995 and  increased as a percentage  of total net revenues to 36% from
27% in 1995.  These increases were primarily due to the Company's  investment in
marketing  staff  and  advertising  related  to the  launching  of the new Asset
Insight product.

General and Administrative Expenses

     General  and  administrative  expenses  consist  principally  of salary and
benefit costs for administrative  personnel,  general operating costs and legal,
accounting and other  professional  fees.  General and  administrative  expenses
increased  71% in 1997 from $2.4 million to $4.2  million.  As a  percentage  of
total net revenues, general and administrative expenses increased to 30% in 1997
from 22% in 1996. General and  administrative  expenses in 1997 include a charge
for  $949,000 as the result of claims by a customer  arising out of a consulting
project for electronic software  distribution that have called into question the
collectability  of a receivable  that was  outstanding at December 31, 1997. The
remainder  of the increase in 1997  general and  administrative  expenses can be
attributed to increased  payroll-related  costs,  facility,  and other  expenses
largely a result of a concerted effort to strengthen the  infrastructure  of the
Company to  accommodate  its  growth in  revenue.  In March  1997,  the  Company
relocated  and  increased its leased  headquarters'  square  footage from 23,000
square  feet to 49,600  square feet to  accommodate  the  company-wide  staffing
increases.  The Company  intends to continue to make  investments in its general
and  administrative  infrastructure,  and,  as a  result,  expects  general  and
administrative expenses to increase in absolute dollars.

     General and administrative  expenses remained relatively  unchanged in 1996
from 1995.  Excluding the expenses  related to the LAN division in both 1995 and
1996, general and  administrative  expenses increased 3%, and as a percentage of
total net revenues,  increased to 22% in 1996 from 20% in 1995. This increase is
the  result  of the  lower  overall  revenue  base and  increased  expenses  for
payroll-related costs, professional fees, and other expenses related to building
the infrastructure for launching the Asset Insight product line.

Research and Development

     Research and development  expenses consist primarily of salary and benefits
for the Company's  software  development  and technical  support staff and, to a
lesser  extent,  costs  associated  with  independent  contractors.  The Company
capitalizes certain software  development costs incurred to develop new software
or to enhance  the  Company's  existing  software.  Such  capitalized  costs are
amortized on an individual  product basis commencing when a product is generally
available  for  release.   Costs   incurred  prior  to  the   establishment   of
technological  feasibility  are charged to  research  and  development  expense.
Associated with the Company's continuing  commitment to developing  enhancements
and  improvements of the Asset Insight product and its other product lines,  the
Company has experienced a 27% increase in the number of research and development
personnel in 1997.  As such,  gross  expenditures  for research and  development
increased 46% to $5.0 million in 1997 from $3.4 million in 1996. As a percentage
of net revenues, gross research and development costs were 35% for 1997 compared
to 30% for 1996. Net research and development expenses increased to $3.2 million
in 1997 from $1.2 million in 1996.  These  increases are due primarily to higher
staffing costs and lower deferral of development costs. As a percentage of gross
research and development  expenditures,  deferred development costs were 36% and
64% in 1997 and 1996,  respectively.  The Company  anticipates that research and
development  expenses  will  continue to  increase  in absolute  dollars but may
fluctuate as a percentage of net revenues.  Gross research and development costs
increased 9% in 1996 to $3.4 million from $3.1 million in 1995.  As a percentage
of net revenues,  gross research and development costs were 30% in 1996 compared
to 25% in 1995.  The increase  was due to the  Company's  investment  in its new
product line,  Asset Insight,  and 


                                       18
<PAGE>

continuing enhancements of its other product lines. Net research and development
expenses  decreased by 33% to $1.2 million in 1996 from $1.8 million in 1995. As
a percentage of total net revenues,  research and development expenses decreased
to 11% in 1996 from 15% in 1995.  The decrease was due primarily to the increase
in  capitalized  software  costs  related  to the  development  of the new Asset
Insight  product in 1996, as well as the decreased  expenses  resulting from the
sale of the LAN  division.  As a percentage  of gross  research and  development
expenditures,  deferred  development  costs were 64% in 1996  compared to 41% in
1995.

Provision for Income Taxes

     There was no  provision  for  income  taxes in 1997 and 1996 due to current
year  losses.  In 1995,  the Company  recorded a $878,000  tax  provision  for a
valuation allowance against a previously recorded deferred tax asset.

     At December 31, 1997, the Company has net operating loss  carryforwards for
U.S.  federal  income tax  purposes  of  approximately  $28  million,  which are
available to offset future federal  taxable income and expire in various amounts
from 1998 through 2012.

Net Loss

     The Company  recorded a net loss of $3.5  million,  or $0.22 per share,  in
1997  compared  to a net loss of  $253,000,  or $0.02 per  share,  in 1996.  The
resulting net losses  reflect the reserve  charge taken in 1997 as the result of
the  uncertainty  regarding  the  collection  of a receivable  and the increased
operating expenses in 1997 and 1996 associated with the substantial expenditures
for  research  and  development,  the sales and  marketing  campaign,  increased
staffing,  and  infrastructure  development to support the Asset Insight product
rollout.  In 1995, the Company recorded a net loss of $1.2 million, or $0.08 per
share.  The 1995  net loss  includes  a  $878,000  tax  provision  charge  for a
valuation allowance against a previously recorded deferred tax asset.

Impact of Recently Issued Accounting Standards

     The FASB issued pronouncements  relating to the presentation and disclosure
of information related to the Company's capital structure, comprehensive income,
and segment  data.  The Company is  required  to adopt the  provisions  of these
pronouncements, if applicable, for the fiscal years beginning after December 15,
1997. The adoption of these  pronouncements is not expected to have an impact on
the Company's  financial position and results of operation nor is it expected to
significantly  change the presentation of the Company's financial statements and
related notes and data thereto.


                                       19
<PAGE>


Liquidity and Capital Resources

     The Company has funded its operations through borrowings and cash generated
from  operations.  To fund the Company's growth plan, the Company has arranged a
$6.0 million  unsecured  revolving line of credit with  Safeguard.  Terms of the
line of credit  require  monthly  interest  payments  at the prime rate plus 1%.
Principal is due thirteen months after date of demand by Safeguard or earlier in
the case of a sale of substantially all of the assets of the Company, a business
combination  or upon the closing of a sale of a debt or equity  offering.  As of
March 23, 1998, borrowings under the Safeguard line of credit are $3.1 million.

     In July 1997, the Company entered into a  sale-leaseback  agreement.  Under
the arrangement,  the Company will sell up to $1.0 million of computer equipment
and furniture and lease it back for a period of up to 48 months. In August,  the
Company sold computer  equipment and furniture with a net book value of $689,000
for  approximately  $826,000  under the  sale-leaseback  agreement.  Under  this
agreement, in March 1998, the Company received proceeds of $174,000 for the sale
of computer equipment with a net book value of $161,000.

     Net cash provided by operating  activities  consisted primarily of non-cash
expenses  plus the net change in working  capital  items offset by the net loss.
The decrease in net cash provided by operating  activities between 1997 and 1996
was primarily due to the larger net loss reported in 1997.

     Net cash used in investing  activities for 1997 consisted  primarily of the
investment  associated  with the  Company's  ongoing  commitment  to  developing
enhancements  and  improvements of the Asset Insight product and the purchase of
furniture  and  equipment  to support the  anticipated  growth of the  business,
offset by the proceeds  received under the  sale-leaseback  agreement  described
above. The Company also made non-recourse, non-interest-bearing loans to certain
officers of the  Company.  Net cash used in  investing  activities  for 1996 was
primarily  for software  development  costs and the  purchase of  furniture  and
equipment.

     Net cash provided by financing  activities in 1997  consisted  primarily of
borrowings  under the Safeguard  line of credit offset by payments  towards debt
principal repayment and for the repurchase of 86,018 shares of common stock. Net
cash  provided  by  financing   activities  for  1996  was  primarily  net  debt
borrowings.

     The  Company  recognizes  the need to  ensure  its  operations  will not be
adversely  impacted by Year 2000 software  failure.  The Company is currently in
the process of  evaluating  its  computer  software  and  databases to determine
whether or not modifications will be required to prevent problems related to the
Year  2000.  This  process  includes  analyzing  and  assembling  a list of both
internally  developed  and purchased  software that utilize  embedded date codes
that may  experience  operational  problems  when the year 2000 is reached.  The
Company will also be communicating with suppliers,  channel partners,  financial
institutions  and others  with which it does  business to  coordinate  Year 2000
conversion.  The  Company  expects  to  make  the  required  corrections  to the
identified  software  during 1998 and test the changes in 1999. The Company does
not have an estimate of the total cost of evaluating and fixing these  potential
problems.  However,  most of the  costs  incurred  in  addressing  the Year 2000
problems are expected to be expensed as incurred,  in compliance  with generally
accepted accounting  principles.  The Company does believe that a portion of the
cost will be  handled  through  the  normal  course  of  software  upgrades  and
replacements;  however,  the project  may impact  capital  expenditure  budgets,
through increased expenditures for software and computer hardware.

     The  Company's  Asset  Insight  product  was  developed  to  be  Year  2000
compliant;  however, the risk does exist that certain code may not be compliant.
As such,  the  Company has  established  a project to perform an analysis of its
products  and  undertake  any work  necessary  to ensure  that they  continue to
operate  correctly when the year 2000 is reached.  The expense  associated  with
this project will be expensed as incurred. The Company is unable to quantify the
resources that may have to be committed to modify software and is unable at this
time to determine if such expense will be material to the Company.


                                       20
<PAGE>


     In the past, the Company has generated  cash from  operating  activities to
fund  development  and  finance   activities  despite  its  net  losses  due  to
significant levels of depreciation and amortization.  However, cash requirements
are  forecasted  to  continue  to  increase  through  1998  due to  the  planned
expenditures  for  marketing  and the  increased  staffing  required to enhance,
support and market the Asset Insight  product.  As stated  above,  Safeguard has
agreed to  assist in  funding  the  Company's  projected  cash  requirements  by
providing a $6.0 million line of credit,  of which $2.9 million is available for
future borrowings as of March 23, 1998.  However,  the Company  anticipates that
this  credit  facility  may not be adequate  to meet the Asset  Insight  product
rollout  expenses.  Although  operating  activities  may provide cash in certain
periods, to the extent the Company experiences growth in the future, the Company
anticipates   that  its  operating  and  investing   activities  may  use  cash.
Consequently,  any  such  future  growth  may  require  the  Company  to  obtain
additional  equity  or debt  financing.  However,  the  Company  has no  present
understanding,  commitment,  or agreement with respect to any such  transaction.
Accordingly,  there can be no  assurance  that the  Company  will have access to
adequate debt or equity financing or that, if available,  it will be under terms
and conditions satisfactory to the Company or which may not be dilutive.


                                       21
<PAGE>

Item 7A. Quantitative and Qualitative Disclosure about Market Risk

     Not applicable  pursuant to General Instruction 1 to Item 305 of Regulation
S-K.



Item  8. Financial Statements and Supplementary Data

     The consolidated  financial  statements and schedule filed with this report
appear on pages F-2 through F-17, and are listed on page F-1.



Item 9. Changes in and Disagreements With Accountants on Accounting and 
        Financial Disclosure

     None.


                                       22
<PAGE>

                                    PART III

Incorporated by Reference

     The information  called for by Item 10. Directors and Executive Officers of
the Registrant  (other than the information  concerning  executive  officers set
forth after Item 4 herein), Item 11. Executive  Compensation,  Item 12. Security
Ownership  of Certain  Beneficial  Owners and  Management  and Item 13.  Certain
Relationships  and Related  Transactions is incorporated  herein by reference to
the  Company's  definitive  proxy  statement  for its 1998  Annual  Shareholders
Meeting,  which  is  expected  to be  filed  with the  Securities  and  Exchange
Commission  not later than 120 days  after the end of the  fiscal  year to which
this report relates.




                                       23
<PAGE>

                                     PART IV

Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K


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

     (1)  Financial Statements

<TABLE>
<S>                                                                                                     <C>
           (i)    Report of Independent Auditors....................................................................F-2

           (ii)   Balance Sheets at December 31, 1997 and 1996......................................................F-3

           (iii)  Statements of Operations for the years ended
                  December 31, 1997, 1996 and 1995..................................................................F-4

           (iv)   Statements of Shareholders' Equity for the years ended
                  December 31, 1997, 1996 and 1995..................................................................F-5

           (v)    Statements of Cash Flows for the years ended
                  December 31, 1997, 1996 and 1995..................................................................F-6

           (vi)   Notes to Financial Statements........................................................F-7 through F-15

     (2)  Financial Statement Schedules


          (i)     Schedule I -Valuation and Qualifying Accounts for the years ended
                  December 31, 1997, 1996 and 1995.................................................................F-17
</TABLE>

     (3)  Exhibits


          See Item 14(c) of this Report.

(b)       Reports on Form 8-K.

          No reports on Form 8-K have been  filed by the  Registrant  during the
          quarter ended December 31, 1997.

(c)       Exhibits

          The following is a list of exhibits required by Item 601 of Regulation
          S-K to be filed as part of this Report.  For exhibits  incorporated by
          reference,  the  location  of the  exhibit in the  previous  filing is
          indicated in parentheses.


                                       24
<PAGE>

                                  EXHIBIT INDEX

Exhibit
Number        Exhibit Description
------        -------------------

3.1           Articles of Incorporation of the Company,  as amended (4) (Exhibit
              3a)

3.2           Articles of Amendment of Rabbit Software  Corporation (3) (Exhibit
              3.2)

3.3           Articles of Amendment of the Company (5) (Exhibit 3.3)

3.4           By-Laws of the Company, as amended (4) (Exhibit 3b)

4.1           Form of Certificate  evidencing Common Stock,  $0.01 par value, of
              the Company (5) (Exhibit 4.2)

4.2**         The Company's 1988 Stock Option Plan, as amended (5) (Exhibit 4.5)

4.3**         The Company's 1997 Equity Compensation Plan (7) (Exhibit 4.1)

10.1          Agreement of Lease,  executed by the Company on December 23, 1996,
              with Rexford LLC (6) (Exhibit 10.1)

10.2          Agreement of Lease,  executed by the Company on February 17, 1986,
              with Morehall Associates Limited Partnership (1) (Exhibit 10m)

10.3          First  Amendment to Agreement of Lease,  dated June 13, 1986, with
              Morehall Associates Limited Partnership (2) (Exhibit 10i)

10.4          Second  Amendment to Agreement of Lease,  dated June 1, 1989, with
              Morehall Associates Limited Partnership (2) (Exhibit 10j)

10.5          Third  Amendment to Agreement  of Lease,  dated  October 12, 1992,
              with Morehall Associates Limited Partnership (4) (Exhibit 10d)

10.6          Fourth  Amendment to Agreement of Lease,  dated  January 28, 1997,
              with Morehall Associates Limited Partnership (6) (Exhibit 10.6)

10.7          Fifth Amendment to Agreement of Lease,  dated March 10, 1997, with
              Morehall Associates Limited Partnership (6) (Exhibit 10.7)

10.8          Administrative  Services  Agreement  with  Safeguard  Scientifics,
              Inc., dated December 15, 1985 (1) (Exhibit 10s)

10.9          Second Amended  Revolving Note dated  September 11, 1997,  between
              the Company and Safeguard Scientifics, Inc. (8) (Exhibit 10.1)

10.10**       Promissory Note dated August 19, 1994, and Pledge  Agreement dated
              July 22,  1994,  between the Company and Chris Jesse (5)  (Exhibit
              10.12)

10.11**       Promissory Note dated August 19, 1994, and Pledge  Agreement dated
              July 22,  1994,  between the Company and Steve Kuekes (5) (Exhibit
              10.13)


                                       25
<PAGE>


                                  EXHIBIT INDEX

Exhibit
Number        Exhibit Description
------        -------------------

10.12**       Promissory Note dated August 19, 1994, and Pledge  Agreement dated
              July 22,  1994,  between the  Company and Nancy Dunn (5)  (Exhibit
              10.14)

10.13**       Promissory  Note,  Pledge  Agreement  and Agreement to Transfer or
              Terminate  dated  January 31, 1995,  between the Company and Chris
              Jesse (5) (Exhibit 10.15)

10.14**       Promissory  Note and Pledge  Agreement  dated  January  31,  1995,
              between the Company and Steve Kuekes (5) (Exhibit 10.16)

10.15**       Promissory  Note,  Pledge  Agreement  and Agreement to Transfer or
              Terminate  dated  January 31, 1995,  between the Company and Nancy
              Dunn (5) (Exhibit 10.17)

10.16**       Memorandum of Agreement Regarding  Compensation and Benefits dated
              June 3, 1994 among Safeguard Scientifics, Inc., the Company, Chris
              Jesse, Steven Kuekes and Nancy Dunn (5) (Exhibit 10.18)

10.17**       Employee   Non-Disclosure  and  Non-Competition   Agreement  dated
              October 4, 1993, and First Amendment  dated June 3, 1994,  between
              the Company and Chris Jesse (5) (Exhibit 10.19)

10.18**       Employee   Non-Disclosure  and  Non-Competition   Agreement  dated
              October 4, 1993, and First Amendment  dated June 3, 1994,  between
              the Company and Steve Kuekes (5) (Exhibit 10.20)

10.19**       Employee   Non-Disclosure  and  Non-Competition   Agreement  dated
              October 4, 1993, and First Amendment  dated June 3, 1994,  between
              the Company and Nancy Dunn (5) (Exhibit 10.21)

10.20         Master  Lease  Agreement  and  Addendum  No.1 dated July 23,  1997
              between the Company and Triangle  Technology  Leasing (8) (Exhibit
              10.2)

23.1*         Consent of Ernst & Young LLP

27.1*         Financial Data Schedule for the year ended December 31, 1997

27.2*         Restated  Financial  Data Schedule for the three months ended June
              30, 1996

*             Filed herewith.

**            Management  contract or compensatory  plan or arrangement in which
              directors  and/or   executive   officers  of  the  registrant  may
              participate.


                                       26
<PAGE>

                                  EXHIBIT INDEX


(1)  Filed as an exhibit to the  Company's  Registration  Statement  on Form S-1
     (No. 33-9525), and incorporated herein by reference.

(2)  Filed as an exhibit to the Company's  Annual Report on Form 10-K for fiscal
     year ended December 31, 1989, and incorporated herein by reference.

(3)  Filed as an exhibit to the Company's Current Report on Form 8-K dated ended
     September 30, 1993, and incorporated herein by reference.

(4)  Filed as an exhibit to the  Company's  Annual Report on Form 10K for fiscal
     year ended December 31,1992, and incorporated herein by reference.

(5)  Filed as an exhibit to the Company's  Annual Report on Form 10-K for fiscal
     year ended December 31, 1994, and incorporated herein by reference.

(6)  Filed as an exhibit to the Company's  Annual Report on Form 10-K for fiscal
     year ended December 31, 1996, and incorporated herein by reference.

(7)  Filed as an exhibit to the Company's  Quarterly Report on Form 10-Q for the
     period ended June 30, 1997, and incorporated herein by reference.

(8)  Filed as an exhibit to the Company's  Quarterly Report on Form 10-Q for the
     period ended September 30, 1997, and incorporated herein by reference.


(d)        See Item 14(a) of this Report.




                                       27
<PAGE>

                                   SIGNATURES


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

                                        TANGRAM ENTERPRISE SOLUTIONS, INC.

Dated:  April 06, 1998                  By: /s/ William C. Jesse
                                            -----------------------------------
                                        William C. Jesse,
                                        President, Chief Executive Officer and
                                        Director

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

Dated:  April 06, 1998                  /s/ William C. Jesse
                                        --------------------------------------
                                        William C. Jesse,
                                        President, Chief Executive Officer and
                                        Director
                                        (Principal Executive Officer)

Dated:  April 06, 1998                  /s/ John N. Nelli
                                        --------------------------------------
                                        John N. Nelli,
                                        Senior Vice President and
                                        Chief Financial Officer
                                        (Principal Financial Officer)

Dated:  April 06, 1998                  /s/ Diane K. Murdock
                                        --------------------------------------
                                        Diane K. Murdock,
                                        Chief Accounting Officer
                                        (Principal Accounting Officer)

Dated:  April 06, 1998                  /s/ Charles A. Root
                                        --------------------------------------
                                        Charles A. Root,
                                        Chairman of the Board of Directors

Dated:  April 06, 1998                  /s/ Steven F. Kuekes
                                        --------------------------------------
                                        Steven F. Kuekes,
                                        Senior Vice President, Chief
                                        Technology Officer and Director

Dated:  April 06, 1998                  /s/ Michael H. Forster
                                        --------------------------------------
                                        Michael H. Forster,
                                        Director

Dated:  April 06, 1998                  /s/ John F. Owens
                                        --------------------------------------
                                        John F. Owens,
                                        Director

Dated:  April 06, 1998                  /s/ Carl G. Sempier
                                        --------------------------------------
                                        Carl G. Sempier,
                                        Director


                                       28
<PAGE>

Dated:  April 06, 1998                  /s/ Harry Wallaesa
                                        --------------------------------------
                                        Harry Wallaesa,
                                        Director

Dated:  April 06, 1998                  /s/ Carl Wilson
                                        --------------------------------------
                                        Carl Wilson,
                                        Director

                                       29
<PAGE>


                                  EXHIBIT INDEX

     Except as indicated by footnote,  all of the following  exhibits were filed
with the Company's  Annual  Report on Form 10-K,  dated  December 31, 1997.  For
exhibits incorporated by reference,  the location of the exhibit in the previous
filing is indicated in parentheses.


Exhibit No.      Exhibit Description

3.1              Articles  of  Incorporation  of the  Company,  as  amended  (4)
                 (Exhibit 3a)

3.2              Articles  of  Amendment  of  Rabbit  Software  Corporation  (3)
                 (Exhibit 3.2)

3.3              Articles of Amendment of the Company (5) (Exhibit 3.3)

3.4              By-Laws of the Company, as amended (4) (Exhibit 3b)

4.1              Form of Certificate  evidencing Common Stock,  $0.01 par value,
                 of the Company (5) (Exhibit 4.2)

4.2**            The  Company's  1988 Stock Option Plan, as amended (5) (Exhibit
                 4.5)

4.3**            The Company's 1997 Equity Compensation Plan (7) (Exhibit 4.1)

10.1             Agreement  of Lease,  executed by the  Company on December  23,
                 1996, with Rexford LLC (6) (Exhibit 10.1)

10.2             Agreement  of Lease,  executed by the  Company on February  17,
                 1986, with Morehall Associates Limited Partnership (1) (Exhibit
                 10m)

10.6             First  Amendment to  Agreement  of Lease,  dated June 13, 1986,
                 with Morehall Associates Limited Partnership (2) (Exhibit 10i)

10.7             Second  Amendment to  Agreement  of Lease,  dated June 1, 1989,
                 with Morehall Associates Limited Partnership (2) (Exhibit 10j)

10.8             Third Amendment to Agreement of Lease,  dated October 12, 1992,
                 with Morehall Associates Limited Partnership (4) (Exhibit 10d)

10.6             Fourth Amendment to Agreement of Lease, dated January 28, 1997,
                 with Morehall Associates Limited Partnership (6) (Exhibit 10.6)

10.7             Fifth  Amendment to  Agreement of Lease,  dated March 10, 1997,
                 with Morehall Associates Limited Partnership (6) (Exhibit 10.7)

10.8             Administrative  Services Agreement with Safeguard  Scientifics,
                 Inc., dated December 15, 1985 (1) (Exhibit 10s)

10.9             Second Amended Revolving Note dated September 11, 1997, between
                 the Company and Safeguard Scientifics, Inc. (8) (Exhibit 10.1)

10.10**          Promissory  Note dated  August 19, 1994,  and Pledge  Agreement
                 dated July 22,  1994,  between  the Company and Chris Jesse (5)
                 (Exhibit 10.12)



                                       30
<PAGE>


                                  EXHIBIT INDEX


Exhibit No.      Exhibit Description
-----------      -------------------

10.11**          Promissory  Note dated  August 19, 1994,  and Pledge  Agreement
                 dated July 22,  1994,  between the Company and Steve Kuekes (5)
                 (Exhibit 10.13)

10.12**          Promissory  Note dated  August 19, 1994,  and Pledge  Agreement
                 dated July 22,  1994,  between  the  Company and Nancy Dunn (5)
                 (Exhibit 10.14)

10.13**          Promissory Note,  Pledge Agreement and Agreement to Transfer or
                 Terminate dated January 31, 1995, between the Company and Chris
                 Jesse (5) (Exhibit 10.15)

10.14**          Promissory  Note and Pledge  Agreement  dated January 31, 1995,
                 between the Company and Steve Kuekes (5) (Exhibit 10.16)

10.15**          Promissory Note,  Pledge Agreement and Agreement to Transfer or
                 Terminate dated January 31, 1995, between the Company and Nancy
                 Dunn (5) (Exhibit 10.17)

10.16**          Memorandum  of Agreement  Regarding  Compensation  and Benefits
                 dated  June 3, 1994  among  Safeguard  Scientifics,  Inc.,  the
                 Company, Chris Jesse, Steven Kuekes and Nancy Dunn (5) (Exhibit
                 10.18)

10.17**          Employee  Non-Disclosure  and  Non-Competition  Agreement dated
                 October  4,  1993,  and First  Amendment  dated  June 3,  1994,
                 between the Company and Chris Jesse (5) (Exhibit 10.19)

10.18**          Employee  Non-Disclosure  and  Non-Competition  Agreement dated
                 October  4,  1993,  and First  Amendment  dated  June 3,  1994,
                 between the Company and Steve Kuekes (5) (Exhibit 10.20)

10.19**          Employee  Non-Disclosure  and  Non-Competition  Agreement dated
                 October  4,  1993,  and First  Amendment  dated  June 3,  1994,
                 between the Company and Nancy Dunn (5) (Exhibit 10.21)

10.20            Master Lease  Agreement  and Addendum  No.1 dated July 23, 1997
                 between  the  Company  and  Triangle   Technology  Leasing  (8)
                 (Exhibit 10.2)

23.1*            Consent of Ernst & Young LLP

27.1*            Financial Data Schedule for the year ended December 31, 1997

27.2*            Restated  Financial  Data  Schedule  for the three months ended
                 June 30, 1996

*                Filed herewith.  

**               Management  contract or  compensatory  plan or  arrangement  in
                 which directors and/or executive officers of the registrant may
                 participate.


                                       31
<PAGE>


                                  EXHIBIT INDEX

(1)  Filed as an exhibit to the  Company's  Registration  Statement  on Form S-1
     (No. 33-9525), and incorporated herein by reference.

(2)  Filed as an exhibit to the Company's  Annual Report on Form 10-K for fiscal
     year ended December 31, 1989, and incorporated herein by reference.
 
(3)  Filed as an exhibit to the Company's Current Report on Form 8-K dated ended
     September 30, 1993, and incorporated herein by reference.
       
(4)  Filed as an exhibit to the  Company's  Annual Report on Form 10K for fiscal
     year ended December 31,1992, and incorporated herein by reference.
        
(5)  Filed as an exhibit to the Company's  Annual Report on Form 10-K for fiscal
     year ended December 31, 1994, and incorporated herein by reference.
       
(6)  Filed as an exhibit to the Company's  Annual Report on Form 10-K for fiscal
     year ended December 31, 1996, and incorporated herein by reference.
         
(7)  Filed as an exhibit to the Company's  Quarterly Report on Form 10-Q for the
     period ended June 30, 1997, and incorporated herein by reference.
        
(8)  Filed as an exhibit to the Company's  Quarterly Report on Form 10-Q for the
     period ended September 30, 1997, and incorporated herein by reference.






                                       32
<PAGE>


                                     Audited Financial Statements
                                 and Additional Financial Information

                                  Tangram Enterprise Solutions, Inc.

                             Years ended December 31, 1997, 1996, and 1995
                                  with Report of Independent Auditors




                                                                            
<PAGE>



                       Tangram Enterprise Solutions, Inc.

                          Audited Financial Statements
                      and Additional Financial Information

                  Years ended December 31, 1997, 1996, and 1995



                                    Contents


Report of Independent Auditors.............................................  F-2

Audited Financial Statements

Balance Sheets.............................................................  F-3
Statements of Operations...................................................  F-4
Statements of Shareholders' Equity.........................................  F-5
Statements of Cash Flows...................................................  F-6
Notes to Financial Statements..............................................  F-7

Additional Financial Information

Schedule I - Valuation and Qualifying Accounts............................. F-17




                                                                             F-1
<PAGE>


                         Report of Independent Auditors


Board of Directors and Shareholders
Tangram Enterprise Solutions, Inc.

We have audited the balance sheets of Tangram Enterprise  Solutions,  Inc. as of
December  31,  1997  and  1996,  and  the  related   statements  of  operations,
shareholders'  equity,  and cash flows for each of the three years in the period
ended  December  31, 1997.  Our audits also  included  the  financial  statement
schedule  listed in the Index at Item  14(a).  These  financial  statements  and
schedule are the responsibility of the Company's management.  Our responsibility
is to express an opinion on these financial statements and schedule based on our
audits.

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

In our opinion,  the financial  statements  referred to above present fairly, in
all material respects,  the financial position of Tangram Enterprise  Solutions,
Inc. as of December  31, 1997 and 1996,  and the results of its  operations  and
cash flows for each of the three years in the period ended December 31, 1997, in
conformity with generally accepted accounting principles.  Also, in our opinion,
the related  financial  statement  schedule,  when considered in relation to the
basic  financial  statements  taken as a whole,  presents fairly in all material
respects the information set forth therein.



                                                           /s/ Ernst & Young LLP

Raleigh, North Carolina
January 23, 1998



                                                                             F-2
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                                 Balance Sheets
                      (in thousands, except share amounts)

<TABLE>
<CAPTION>
                                                                           December 31
                                                                       1997         1996
                                                                    -------------------------
<S>                                                                  <C>         <C>     
Assets
Current assets:
   Cash and cash equivalents                                         $    246    $    176
   Accounts receivable, net of allowance of $1,149 and
     $244 in 1997 and 1996                                              2,971       2,991
   Other                                                                  261         267
                                                                    -------------------------
 Total current assets                                                   3,478       3,434

Property and equipment:
   Computer equipment and software                                        614         595
   Office equipment and furniture                                         127          83
   Leasehold improvements                                                  77          15
                                                                    -------------------------
                                                                          818         693
   Less accumulated depreciation and amortization                         352         205
                                                                    -------------------------
 Total property and equipment                                             466         488

Other assets:
   Notes receivable - officers                                          1,284         784
   Deferred software costs, net                                         3,289       3,022
   Cost in excess of net assets of business acquired, net               4,407       5,145
   Other                                                                   37          73
                                                                    -------------------------
 Total assets                                                        $ 12,961    $ 12,946
                                                                    =========================

Liabilities and shareholders' equity Current liabilities:
   Notes payable                                                     $     38    $    356
   Accounts payable                                                       671         590
   Accrued expenses                                                     1,447         723
   Deferred revenue                                                     2,865       2,620
                                                                    -------------------------
 Total current liabilities                                              5,021       4,289

Long-term debt - shareholder                                            3,006         400
Other liabilities                                                         451         --

Shareholders' equity:
   Common stock,  par value $0.01,  authorized  48,000,000 shares,
     15,767,747 issued and 15,681,729 outstanding in 1997 and
     15,665,363 issued and 15,633,032 outstanding in 1996                 158         157
   Additional paid-in capital                                          44,713      44,729
   Accumulated deficit                                                (39,888)    (36,427)
   Treasury stock, at cost, 86,018 shares and 32,331 shares in
     1997 and 1996                                                       (500)       (202)
                                                                    -------------------------
 Total shareholders' equity                                             4,483       8,257
                                                                    -------------------------
 Total liabilities and shareholders' equity                          $ 12,961    $ 12,946
                                                                    =========================
</TABLE>

See accompanying notes.


                                                                             F-3
<PAGE>


                       Tangram Enterprise Solutions, Inc.

                            Statements of Operations
                    (in thousands, except per share amounts)


<TABLE>
<CAPTION>
                                                                   Year ended December 31
                                                         1997                1996               1995
                                                  ---------------------------------------------------------
<S>                                                  <C>                 <C>               <C>        
Net revenues:
   Licenses and product                              $     7,968         $     5,955       $     5,624
   Services                                                6,106               5,187             6,914
                                                  ---------------------------------------------------------
Total net revenues                                        14,074              11,142            12,538
 Cost of revenues                                          3,483               3,703             3,819
                                                  ---------------------------------------------------------

 Gross profit                                             10,591               7,439             8,719

Operating expenses:
   Sales and marketing                                     6,545               4,068             4,584
   General and administrative                              4,160               2,428             2,543
   Research and development                                3,192               1,228             1,829
                                                  ---------------------------------------------------------
Total operating expenses                                  13,897               7,724             8,956
                                                  ---------------------------------------------------------

Loss from operations                                      (3,306)               (285)             (237)

Other (expense) income                                      (155)                 32               (70)
                                                  ---------------------------------------------------------

Loss before income taxes                                  (3,461)               (253)             (307)
Provision for income taxes                                    --                  --              (878)
                                                  ---------------------------------------------------------
Net loss                                             $    (3,461)        $      (253)      $    (1,185)
                                                  =========================================================

Basic and diluted loss per common share              $     (0.22)        $     (0.02)      $     (0.08)
                                                  =========================================================

Weighted average number of common shares
   outstanding                                            15,631              14,811            14,459
                                                  =========================================================
</TABLE>


See accompanying notes.


                                                                             F-4
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                       Statements of Shareholders' Equity
                     (in thousands, except number of shares)


<TABLE>
<CAPTION>
                                    Common Stock         Additional                        Treasury Stock       
                              ------------------------     Paid-in     Accumulated     ----------------------   Shareholders'
                                 Shares       Amount       Capital       Deficit        Shares        Amount       Equity
                              ------------------------------------------------------------------------------------------------
<S>                           <C>          <C>          <C>           <C>              <C>        <C>           <C>       
Balance at December 31, 1994   14,332,217   $      143   $   44,214    $  (34,989)           --    $       --    $    9,368
   Exercise of stock options      195,659            2           61            --            --            --            63
   Net loss                            --           --           --        (1,185)           --            --        (1,185)
                              ------------------------------------------------------------------------------------------------
Balance at December 31, 1995   14,527,876          145       44,275       (36,174)           --            --         8,246
   Exercise of stock options    1,028,396           11          305           --        (32,331)         (202)          114
   Conversion of debt             109,091            1          149           --             --            --           150
   Net loss                            --           --           --          (253)           --            --          (253)
                              ------------------------------------------------------------------------------------------------
Balance at December 31, 1996   15,665,363          157       44,729       (36,427)      (32,331)         (202)        8,257
   Exercise of stock options      102,384            1          (16)           --        32,331           202           187
   Acquisition of treasury stock       --           --           --            --       (86,018)         (500)         (500)
   Net loss                            --           --           --        (3,461)           --            --        (3,461)
                              ------------------------------------------------------------------------------------------------
Balance at December 31, 1997   15,767,747   $      158   $   44,713    $  (39,888)      (86,018)   $     (500)   $    4,483
                              ================================================================================================
</TABLE>

See accompanying notes.



                                                                             F-5
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                            Statements of Cash Flows
                                 (in thousands)

<TABLE>
<CAPTION>
                                                                  Year ended December 31
                                                               1997       1996       1995
                                                             ------------------------------
<S>                                                          <C>        <C>        <C>     
Operating activities
Net loss                                                     $(3,461)   $  (253)   $(1,185)
Adjustments to reconcile net loss to net cash provided
by operating activities:
   Depreciation                                                  286        281        401
   Amortization                                                2,248      2,333      1,818
   Reserve for doubtful accounts                               1,018         56        169
   Other                                                         314         --         --
   Decrease in deferred tax assets                                --         --        884
   Cash provided by changes in working capital items:
     Accounts receivable                                        (998)      (470)       328
     Other current assets                                          6         44        (47)
     Accounts payable                                             81         87         40
     Accrued expenses                                            724        337        (65)
     Deferred revenue                                            245        392       (220)
                                                             ------------------------------
Net cash provided by operating activities                        463      2,807      2,123

Investing activities
Deferred software costs                                       (1,777)    (2,164)    (1,286)
Expenditures for property and equipment                         (953)      (501)      (178)
Sale-leaseback of equipment and furniture                        826         --         --
Increase in notes receivable-officers                           (500)        --       (392)
Decrease (increase) in other assets                               36       (213)        --
                                                             ------------------------------
Net cash used in investing activities                         (2,368)    (2,878)    (1,856)

Financing activities
Net borrowings (repayments) on note payable to shareholder     2,606        400       (606)
Repayments on notes payable                                     (318)      (264)      (153)
Repayment of capital lease obligations                            --        (95)       (93)
Acquisition of treasury stock                                   (500)        --         --
Proceeds from exercise of stock options                          187        114         63
                                                             ------------------------------
Net cash provided by (used in) financing activities            1,975        155       (789)
                                                             ------------------------------

Net increase (decrease) in cash                                   70         84       (522)
Cash and cash equivalents, beginning of year                     176         92        614
                                                             ------------------------------
Cash and cash equivalents, end of year                       $   246    $   176    $    92
                                                             =============================

Supplemental disclosure of cash flow information
Cash paid during the period for interest                     $   208    $    52    $   140
                                                             =============================
Cash paid during the period for income taxes                 $     9    $     7    $    18
                                                             =============================
</TABLE>


See accompanying notes.

                                                                             F-6
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                          Notes to Financial Statements

                                December 31, 1997


1. Organization and Summary of Significant Accounting Policies

Organization and Description of Business

Tangram Enterprise  Solutions,  Inc., (the "Company")  provides  enterprise wide
solutions,  including asset tracking and electronic  software  distribution  for
large heterogeneous computing environments,  encompassing mainframe,  UNIX-based
mini and LAN server  platforms.  The Company's common stock trades on The Nasdaq
SmallCap  Market tier of The Nasdaq  Stock  Market  under the symbol  TESI.  The
Company is a member of the Safeguard Scientifics, Inc. ("Safeguard") partnership
of companies.  Safeguard  supports  technology - driven growth companies with an
emphasis on information system markets. Safeguard is the majority shareholder of
the  Company  holding  approximately  67% of the  Company's  outstanding  common
shares.

In March 1996, the Company sold the assets and  liabilities of the LAN division,
formerly  Knozall  Systems,  Inc.  ("Knozall")  to its former owner,  who was an
officer and director of the Company  until the date of sale. In exchange for the
cancellation of $850,000 of a $1 million note due the buyer issued in connection
with the 1994  acquisition of Knozall,  the Company  transferred  all of the net
assets  of the LAN  division,  made a cash  payment  of  $213,000  and  issued a
$300,000  note due in 24 equal  installments.  The buyer  elected to convert the
remaining  $150,000 of the $1 million note into 109,091 shares of Tangram common
stock. In addition,  the Company retained rights to certain technology developed
in the LAN division since August 1, 1994.

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 amounts reported in the financial  statements and accompanying notes.
Actual results can differ from those estimates.

Cash and Cash Equivalents

The Company considers all highly liquid investments with a maturity of less than
three months when purchased to be cash equivalents.

Revenue Recognition

In October  1997,  the AICPA  issued  Statement of Position  97-2 ("SOP  97-2"),
"Software Revenue Recognition", which supersedes Statement of Position 91-1. The
Company  will be required to adopt SOP 97-2 for  software  transactions  entered
into beginning  January 1, 1998, and  retroactive  application to years prior to
adoption is prohibited.  The Company's management  anticipates that the adoption
of SOP  97-2  will  not have a  material  impact  on the  Company's  results  of
operations.  The Company generates revenues from licensing the rights to use its
software products  primarily to end-users.  The Company also generates  revenues
from  post-contract  support  (maintenance),  consulting  and training  services
performed for customers who license its products.


                                                                             F-7
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)


1. Organization and Summary of Significant Accounting Policies (continued)

Net license and product  revenues  include software license fees under perpetual
licensing  agreements and revenues from the sale of gateway and other  products,
which  include both  hardware  and  software.  Revenues  from  software  license
agreements and product sales are recognized currently,  provided that all of the
following  conditions  are met:  a  non-cancelable  license  agreement  has been
signed,  the software has been  delivered,  there are no material  uncertainties
regarding customer acceptance,  collection of the resulting receivable is deemed
probable,  and no other  significant  vendor  obligations  exist.  Revenues from
maintenance  services are  recognized  ratably over the term of the  maintenance
period,  generally one year.  Maintenance revenues that are bundled with license
agreements are unbundled and allocated to each  component.  Consulting  revenues
are  primarily  related  to  implementation  services  performed  on a time  and
material basis under separate  service  agreements for the  installation  of the
Company's software products.  Revenues from consulting and training services are
recognized as the respective services are performed.

Cost of Revenue

Cost of  revenues  includes  cost  principally  related to the  distribution  of
licensed software and hardware products and amortization of capitalized software
development  costs. Costs of revenues also includes the cost of the direct labor
force, including the associated personnel, travel and subsistence, and occupancy
costs incurred in connection with providing consulting and maintenance services.

Sales and Concentration of Credit Risk

The Company operates in a single industry and is engaged in design and sale of a
limited number of software products. During 1997 and 1996, approximately 10% and
17% of sales were made to the Company's  largest  customer.  No single  customer
accounted  for more than 10% of total  revenues  in 1995.  One of the  Company's
customers  represented  21% of the accounts  receivable  balance at December 31,
1997.

International sales (including maintenance contracts) represented  approximately
14%, 8%, and 14% of the Company's total revenues in fiscal years 1997, 1996, and
1995,  respectively.  To date,  international  revenue has been  denominated  in
United States currency;  therefore, the Company's results of operations have not
been affected by currency fluctuation.

The Company's principal financial instrument subject to potential  concentration
of credit risk is accounts receivable, which are unsecured. The Company performs
ongoing credit  evaluations of its customer's  financial  condition.  Management
believes that the concentration of credit risk with respect to trade receivables
is further  mitigated  as the  Company's  customer  base  consists  primarily of
Fortune 1000  companies.  The Company  maintains  reserves for credit losses and
such losses historically have been within management estimates.

Property and Equipment

Property and  equipment are stated at cost.  Depreciation  and  amortization  of
property and equipment is provided using the straight-line method over estimated
useful lives ranging from three to seven years.



                                                                             F-8
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



1. Organization and Summary of Significant Accounting Policies (continued)

Intangible Assets

Intangible  assets are amortized by the methods and over the estimated  lives as
set forth in Note 2.

Income Taxes

The Company  accounts  for income  taxes under the  provisions  of  Statement of
Financial  Accounting  Standards  No. 109 ("SFAS 109"),  "Accounting  for Income
Taxes".  Under SFAS 109, the liability  method is used in accounting  for income
taxes  and  deferred  tax  assets  and  liabilities  are  determined   based  on
differences  between  the  financial  reporting  and tax  basis  of  assets  and
liabilities.

Loss Per Share

In February  1997, the Financial  Accounting  Standards  Board  ("FASB")  issued
Statement of Financial  Accounting Standard No. 128 ("SFAS 128"),  "Earnings per
Share". This pronouncement supersedes Accounting Principles Board Opinion No. 15
("APB 15"),"Earnings per Share" and specifies the computation,  presentation and
disclosure  requirements  for  earnings  per share  ("EPS")  for  entities  with
publicly  held common stock or  potential  common  stock  equivalents.  SFAS 128
replaces  the  presentation  of  primary  EPS  and  fully  diluted  EPS  with  a
presentation of basic EPS and diluted EPS,  respectively.  SFAS 128 is effective
for  financial  statements  for both  interim and annual  periods  ending  after
December  15,  1997  and  requires  restatement  of EPS  for all  prior  periods
reported. The new standard requires additional  informational  disclosures,  and
also makes certain  modifications  to the currently  applicable EPS calculations
defined in APB 15. The  calculations of loss per share under APB 15 and SFAS 128
for the three years ended  December 31, 1997,  1996 and 1995 were the same.  The
loss per common share  calculations  are computed based on the weighted  average
number of common shares actually outstanding during each period.  Diluted EPS is
not  presented  because the effect of inclusion of the exercise of stock options
would be to reduce the loss per common  share.  If the exercise of stock options
were included,  the weighted average number of common shares  outstanding  would
have increased by 1,622,000,  2,362,000 and 1,360,000 shares for the three years
ended December 31, 1997, 1996 and 1995, respectively.

Accounting for Stock Options

In 1996, the Company adopted Statement of Financial Accounting Standards No. 123
("SFAS 123"),  "Accounting for Stock-Based  Compensation"  which gives companies
the option to adopt the fair value  method for expense  recognition  of employee
stock  options and other  stock-based  awards or to continue to account for such
items using the intrinsic value method as outlined under  Accounting  Principles
Board Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees" with
pro forma disclosures of net income (loss) and net income (loss) per share as if
the fair value method had been  applied.  The Company has elected to continue to
apply APB 25 for stock  options and other stock based  awards and has  disclosed
pro forma net loss and net loss per share as if the fair  value  method had been
applied.

Reclassifications

Certain amounts in the 1996 and 1995 financial statements have been reclassified
to conform with 1997 presentation.  These reclassifications had no effect on net
loss or shareholders' equity as previously reported.


                                                                             F-9
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



2. Intangible Assets

Intangible  assets  consist of the  following  at December 31, 1997 and 1996 (in
thousands):

<TABLE>
<CAPTION>
                                         Amortization         Estimated
                                            Method              Lives            1997          1996
                                         ----------------------------------------------------------------
<S>                                      <C>                  <C>              <C>           <C>
Cost in excess of net assets of
   business acquired                     Straight-line        10-15 years      $   8,588     $  8,588
Software development costs               Straight-line            3 years          6,276        6,199
                                                                             ----------------------------
                                                                                  14,864       14,787
Less accumulated amortization                                                      7,168        6,620
                                                                             ----------------------------
                                                                               $   7,696     $ 8,167
                                                                             ============================
</TABLE>

The Company assesses the recoverability of the excess of cost over net assets of
business  acquired based on management's  projections of future cash flow of the
respective operations.

Software  development  costs are accounted for in accordance  with  Statement of
Financial  Accounting  Standards No. 86,  "Accounting  for the Costs of Computer
Software to be Sold, Leased, or Otherwise  Marketed".  Costs associated with the
planning  and  designing  phase of software  development,  including  coding and
testing  activities  necessary  to  establish  technological  feasibility,   are
classified as product  development and expensed as incurred.  Once technological
feasibility  has been  determined,  additional  costs  incurred in  development,
including coding, testing, and product quality assurance, are capitalized.

Amortization  is  provided  on a  product-by-product  basis  over the  estimated
economic  life  of  the  software,   not  to  exceed  three  years,   using  the
straight-line  method.  Amortization  commences  when a product is available for
general  release to customers.  During 1997,  approximately  $1,700,000 of fully
amortized  software  development  costs were removed from intangible  assets and
accumulated amortization.

Research and development  costs are comprised of the following as of December 31
(in thousands):

<TABLE>
<CAPTION>
                                                                 1997           1996            1995
                                                            --------------------------------------------
<S>                                                          <C>            <C>            <C>      
Research and development costs incurred                      $   4,969      $   3,392      $   3,115
Less - capitalized software development costs                   (1,777)        (2,164)        (1,286)
                                                            --------------------------------------------
Research and development costs, net                          $   3,192      $   1,228      $   1,829
                                                            ============================================
</TABLE>

Included in cost of revenues is  amortization of software  development  costs of
$1,510,000, $1,575,000 and $1,060,000 in 1997, 1996 and 1995, respectively.


                                                                            F-10
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



3. Debt

The Company has a $6 million unsecured  revolving line of credit with Safeguard.
The amount of this line of credit was increased from $1 million to $5 million in
April 1997 and to $6 million in July 1997 to finance the cost of introducing and
marketing the new Asset  Insight  product.  Terms of the line of credit  require
monthly  interest  payments at the prime rate plus 1%. Principal is due thirteen
months  after  date of demand by  Safeguard  or earlier in the case of a sale of
substantially all of the assets of the Company,  a business  combination or upon
the closing of a debt or equity offering.

Total  interest  expense was $256,000,  $57,000 and $158,000 for the years ended
1997, 1996 and 1995, respectively.

4. Leases

In July 1997, the Company  entered into a  sale-leaseback  agreement.  Under the
arrangement,  the Company will sell up to $1,000,000  of computer  equipment and
furniture  and lease it back for a period of up to 48  months.  In  August,  the
Company sold computer  equipment and furniture with a net book value of $689,000
for approximately  $826,000 under the  sale-leaseback  agreement.  The lease has
been  accounted for as an operating  lease.  The minimum  monthly rental payment
under this  transaction is  approximately  $19,900.  The gain recognized in this
transaction  has been  deferred  and will be  amortized  as a reduction  to rent
expense over the term of the lease.

The  Company  leases  its  facilities  and  certain   equipment   under  several
non-cancelable  operating lease  agreements that expire at various times through
2004.  Rental  expense under these leases for the years ended December 31, 1997,
1996  and  1995  totaled  approximately   $1,184,000,   $751,000  and  $759,000,
respectively.

Future minimum lease payments under  noncancelable  operating leases at December
31, 1997 are as follows (in thousands):


   1998                                    $     1,258
   1999                                          1,275
   2000                                          1,094
   2001                                            921
   2002                                            935
   Thereafter                                    1,755
                                           --------------
                                           $     7,238
                                           ==============



                                                                            F-11
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



5. Stock Options

The Company has granted incentive and  non-qualified  stock options to employees
and  directors,  both under and outside of formal option plans.  The Company has
three  outstanding  stock  option  plans:  the 1988 Stock Option Plan (the "1988
Plan"), the Stock Option Plan for Directors (the "Directors' Plan") and the 1997
Equity Compensation Plan (the "1997 Plan").

The Company may no longer grant  options  under the 1988 Plan or the  Directors'
Plan.  In April 1997,  the Board of  Directors  proposed  and, in May 1997,  the
stockholders  adopted the 1997 Equity  Compensation Plan and reserved  2,000,000
shares of the Company's common stock for possible issuance. Through December 31,
1997 the Company  had  options  outstanding  of  1,931,600,  198,000 and 212,500
shares, respectively, under these plans. Under the plans, the Board of Directors
determines the option exercise price on a per-grant  basis,  but the price shall
not be less than fair market value on the date of grant. Generally,  outstanding
options  vest over  periods  not  exceeding  4 years after the date of grant and
expire 10 years after the date of grant.  All options granted under the plans to
date have been at prices  which have been equal to fair market  value at date of
grant. At December 31, 1997, the Company reserved approximately 4,129,000 shares
of common stock for future issuance under the plans.

Option  activity under the Company's  plans are summarized  below (in thousands,
except per share amounts):

<TABLE>
<CAPTION>
                                               1997                    1996                   1995
                                     ------------------------- -----------------------------------------------
                                                   Weighted                Weighted               Weighted
                                                    Average                Average                 Average
                                                   Exercise                Exercise               Exercise
                                       Shares        Price      Shares      Price      Shares       Price
                                     -------------------------------------------------------------------------
<S>                                     <C>           <C>         <C>         <C>      <C>           <C>  
Outstanding at beginning of year        2,219         $1.65       2,968       $1.12    2,972         $0.39
Options granted                           290          6.73         350        2.25      347          2.17
Options exercised                        (134)         1.39      (1,028)       0.31     (196)         0.32
Options canceled                          (33)         6.55         (71)       1.82     (155)         1.55
                                     -------------------------------------------------------------------------
Outstanding at end of year              2,342         $2.27       2,219       $1.65    2,968         $1.12
                                     =========================================================================

Options exercisable at year-end         1,652                     1,280                1,778
Shares available for future grant       1,787                       161                  441
</TABLE>

The  following   summarizes   information  about  the  Company's  stock  options
outstanding at December 31, 1997 (in thousands, except per share amounts):

<TABLE>
<CAPTION>
                                       Options Outstanding                        Options Exercisable
                        ------------------------------------------------------------------------------------
       Range of             Number           Weighted.         Weighted        Number          Weighted
       Exercise           Outstanding     Avg. Remaining    Avg. Exercise    Exercisable    Avg. Exercise
        Prices            at 12/31/97    Contractual Life       Price        at 12/31/97        Price
------------------------------------------------------------------------------------------------------------
<S>                         <C>                  <C>            <C>             <C>             <C>    
    $1.00 - $1.25             443                6.8 yrs.       $ 1.14            300           $  1.08
    $1.50 - $1.75           1,316                6.3              1.50          1,223              1.50
    $2.19 - $2.50             236                7.5              2.19             99              2.19
    $4.69 - $6.13             124                9.0              5.28             27              6.05
     $7.00- $8.13             213                9.3              7.38              0              0.00
        $10.25                 10                8.4             10.25              3             10.25
                        ------------------------------------------------------------------------------------
                            2,342                6.9 yrs.       $ 2.27          1,652           $  1.55
                        ====================================================================================
</TABLE>


                                                                            F-12
<PAGE>


                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



5. Stock Options (continued)

The Company  applies APB 25 and related  interpretations  in accounting  for its
various stock option plans. Had compensation expense been recognized  consistent
with SFAS 123, the Company's net loss would have been increased to $3,959,000 or
$0.25 per share, in 1997, $561,000,  or $0.04 per share, in 1996 and $1,258,000,
or $0.09 per share, in 1995.

The per share weighted-average fair value of stock options issued by the Company
during  1997,  1996 and 1995 was $5.26,  $1.67 and $2.04,  respectively,  on the
dates of grant.

The following  assumptions  were used by the Company to determine the fair value
of stock options granted using the Black-Scholes option-pricing model:

<TABLE>
<CAPTION>
                                         1997               1996                1995
                                  -------------------------------------------------------
<S>                                <C>                  <C>                 <C>      
Dividend yield                                0%                   0%                  0%
Expected volatility                         100%         116% to 138%        112% to 115%
Expected option life               5 to 10 years        4 to 10 years       4 to 10 years
Risk-free interest rate             5.9% to 6.8%         6.1% to 6.9%        5.8% to 5.9%
</TABLE>

Pro  forma  net loss  reflects  only  options  granted  in 1997,  1996 and 1995.
Therefore, the full impact of calculating compensation expense for stock options
under  SFAS 123 is not  reflected  in the pro forma net loss  amounts  presented
above because compensation expense is reflected over the options' vesting period
and  compensation  expense for options  granted  prior to January 1, 1995 is not
considered.

6.   Related Party Transactions

In April 1997,  the Company made  non-recourse,  non-interest  bearing  loans to
certain  officers  of the  Company  in the  aggregate  amount  of  $500,000  and
repurchased from these officers a total of 86,018 shares of the Company's common
stock for a purchase  price of  $500,000.  The stock was acquired at its current
market price as reflected by the average of the day's best bid and asked prices.
The stock is held in treasury.  The loans are secured by shares of the Company's
common  stock  owned by the  officers  and  mature at the end of three  years or
termination of employment,  whichever occurs first. In addition, during 1995 and
1994,  the Company  made  non-recourse,  non-interest  bearing  loans to certain
officers of the Company  totaling  $784,000.  The loans are secured by shares of
the  Company's  common stock owned by the officers and mature at the end of five
years or  termination  of employment,  whichever  occurs first.  The total loans
outstanding  at  December  31,  1997 and 1996,  were  $1,284,000  and  $784,000,
respectively.

During the years ended  December  31,  1997,  1996 and 1995,  the  Company  paid
administrative  services  fees to  Safeguard  totaling  approximately  $254,000,
$261,000  and  $187,000,  respectively.  The  Company  also  incurred  and  paid
Safeguard interest costs under a revolving credit agreement of $186,000,  $7,000
and $45,000 in 1997, 1996 and 1995, respectively.


                                                                            F-13
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



7.   Income Taxes

The  Company  had no income  tax  expense  in 1997 or 1996 due to  current  year
losses.  In 1995, the Company  recorded a $878,000 tax provision for a valuation
allowance against a previously recorded deferred tax asset.

The  components  of net  deferred  taxes as of  December  31 are as follows  (in
thousands):

                                                 1997               1996
                                          --------------------------------------
Deferred tax assets
   Tax loss carryforwards                      $   9,652          $   9,186
   Tax credit carryforwards                          455                464
   Deferred software costs                          (777)               (61)
   Purchased research and development                  0                357
   Allowance for doubtful accounts                   391                 83
   Other                                             297                101
                                          --------------------------------------
Total gross deferred tax assets                   10,018             10,130
Valuation allowance                              (10,018)           (10,130)
                                          --------------------------------------
Net deferred tax assets                        $      --          $      --
                                          ======================================

The  actual  income  tax  expense  for  1997,  1996  and 1995  differs  from the
"expected" amount (computed by applying the statutory federal income tax rate of
34% to the loss before income taxes) as follows (in thousands):

<TABLE>
<CAPTION>
                                              1997               1996               1995
                                      ----------------------------------------------------------
<S>                                        <C>                <C>                <C>       
Computed "expected" tax benefit            $    (868)         $     (86)         $    (108)
Non-deductible amortization                      251                257                257
Change in valuation allowance                   (112)              (187)               724
Other                                            729                 16                  5
                                      ----------------------------------------------------------
Actual tax expense                         $      --          $      --          $     878
                                      ==========================================================
</TABLE>



                                                                            F-14
<PAGE>

                       Tangram Enterprise Solutions, Inc.

                    Notes to Financial Statements (continued)



7.   Income Taxes (continued)

At December  31,  1997,  the Company has net  operating  loss  carryforwards  of
approximately  $28  million.  The net  operating  loss  carryforwards  expire in
various  amounts from 1998  through  2012.  The Tax Reform Act of 1986  contains
provisions that limit the ability to utilize net operating loss carryforwards in
the case of certain events including significant changes in ownership interests.
As there was a  significant  change in ownership  interests (as defined) on June
29,  1989,  the Company is limited in its ability to utilize  approximately  $18
million of net  operating  loss  carryforwards.  The annual  limitation  for the
utilization of these carryforwards is approximately $1.3 million, and any unused
amount can be utilized in subsequent years within the carryforward period.

At December  31,  1997,  the Company had  available  approximately  $426,000 and
$29,000  of  research  and  development  and  investment  credit  carryforwards,
respectively, which expire in varying amounts from 1998 through 2003.

8.   Employee Benefit Plan

The Company has a retirement plan which is qualified under Section 401(k) of the
Internal  Revenue Code.  This plan covers  substantially  all employees who meet
minimum age  requirements  and allows  participants  to defer a portion of their
annual compensation on a pre-tax basis. Company contributions to the plan may be
made at the discretion of the Board of Directors.  No Company contributions have
been made through December 31, 1997.

The Company does not offer post-retirement or post-employment benefits.

9.   Contingencies

In February,  1998, the Company filed a suit that seeks damages in the amount of
$1.1 million due to a customer's  breach of its obligations to the Company under
a  software  licensing  agreement  due to  that  customer's  failure  to pay for
software products sold and delivered by the Company. The complaint also asks for
a  declaratory  judgment  declaring  that the  Company  is not in default of any
warranty  obligations  owed under the  agreement  and that the  customer  is not
entitled to any payments or refunds from the Company. As the result of claims by
the customer that have called into question the  collectability  of a receivable
that was outstanding at December 31, 1997, the Company has provided a reserve of
approximately  $1.0  million.   The  Company  continues  to  seek  a  negotiated
resolution  of the  dispute  and will  continue  this  litigation  only if those
attempts at negotiation  prove  unsuccessful.  While it is impossible to predict
with any  certainty  the  outcome of the  litigation  if  pursued,  the  Company
believes that there is substantial merit to its claims.

There are no other material pending legal  proceedings to which the Company is a
party or of which any of its property is subject.



                                                                            F-15
<PAGE>




                        Additional Financial Information




                                                                            F-16
<PAGE>


                       Tangram Enterprise Solutions, Inc.

                 Schedule I - Valuation and Qualifying Accounts

                  Years ended December 31, 1997, 1996, and 1995



<TABLE>
<CAPTION>
                                                                
                                                 Balance at           Additions                         
                                                Beginning of      Charged to Costs   Deductions from    Balance at End of
                                                   Period           and Expenses        Reserves             Period      
                                             -------------------  -------------------------------------------------------
<S>                                            <C>                 <C>                <C>                <C>          
Year ended December 31, 1997:
  Allowance for doubtful accounts              $     244,100       $   1,017,900      $     113,400      $   1,148,600

Year ended December 31, 1996:
  Allowance for doubtful accounts                    225,000              55,500             36,400            244,100

Year ended December 31, 1995:
  Allowance for doubtful accounts                    262,300             169,000            206,300            225,000
</TABLE>

Other schedules have been omitted because they are inapplicable, immaterial,
or not required, as the information is included in the audited financial
statements or notes thereto.


                                                                            F-17