PROCOM TECHNOLOGY INC, 10-K, 1998-10-29

PROCOM TECHNOLOGY INC
10-K, 1998-10-29
COMPUTER PERIPHERAL EQUIPMENT, NEC

Previous: PROCOM TECHNOLOGY INC, 8-K, 1998-10-29

Next: MORGAN STANLEY DEAN WITTER MARKET LEADER TRUST, NSAR-B, 1998-10-29

<PAGE> 1

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549

-----------

FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS
13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

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

For the fiscal year ended July 31, 1998

Commission file number 0-21053

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

California 33-0268063
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)

2181 Dupont Drive, Irvine, CA 92612

(Address of principal executive office) (Zip Code)

(714) 852-1000
(Registrant's telephone number, including area code)

HTTP://WWW.PROCOM.COM
(Registrant's Web Site)

(Former name, former address and former fiscal year, if changed since
last report.)

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: None.

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

COMMON STOCK, $.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 in 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
<PAGE> 2

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. [ ]

As of September 30, 1998, the aggregate market value of the voting stock
of the Registrant held by non-affiliates of the Registrant was approximately
$22.4 million.

The number of shares of Common Stock, $.01 par value, outstanding on
September 30, 1998, was 11,181,142.

DOCUMENTS INCORPORATED BY REFERENCE

Information required by Part III is incorporated by reference to
portions of the Registrant's Proxy Statement for the 1998 Annual Meeting
of Shareholders, which will be filed with the Securities and Exchange
Commission within 120 days after the close of the 1998 fiscal year.

2
<PAGE> 3

PROCOM TECHNOLOGY, INC.
INDEX TO ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED JULY 31, 1998

<TABLE>
<S> <C> <C>
PART I
Item 1. Business.................................................................
Item 2. Properties...............................................................
Item 3. Legal Proceedings........................................................
Item 4. Submission of Matters to a Vote of Security Holders......................

PART II

Item 5. Market for Registrant's Common Stock and Related Stockholder Matters.....
Item 6. Selected Financial Data..................................................
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations....................................................
Item 7A. Quantitative and Qualitative Disclosures About Market Risk...............
Item 8. Financial Statements and Supplementary Data..............................
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosures....................................................

PART III

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

PART IV

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

3
<PAGE> 4

THE INFORMATION CONTAINED IN THIS REPORT ON FORM 10-K INCLUDES FORWARD-LOOKING
STATEMENTS. WHEN USED IN THIS REPORT, THE WORDS "ANTICIPATES," "BELIEVES,"
"EXPECTS," "INTENDS," "FORECASTS," "PLANS," "FUTURE," "STRATEGY" OR WORDS OF
SIMILAR IMPORT ARE INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. OTHER
STATEMENTS OF THE COMPANY'S PLANS AND OBJECTIVES MAY ALSO BE CONSIDERED TO BE
FORWARD LOOKING STATEMENTS. SUCH STATEMENTS ARE SUBJECT TO CERTAIN RISKS AND
UNCERTAINTIES WHICH COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE
EXPRESSED IN THE FORWARD-LOOKING STATEMENTS. READERS ARE CAUTIONED NOT TO PLACE
UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS, WHICH SPEAK ONLY AS OF THE
DATE HEREOF. THE COMPANY UNDERTAKES NO OBLIGATION TO PUBLISH REVISED
FORWARD-LOOKING STATEMENTS TO REFLECT THE OCCURRENCE OF UNANTICIPATED EVENTS OR
CIRCUMSTANCES AFTER THE DATE HEREOF OR TO REFLECT THE OCCURRENCE OF
UNANTICIPATED EVENTS. READERS ARE URGED TO CAREFULLY REVIEW AND CONSIDER THE
VARIOUS DISCLOSURES MADE BY THE COMPANY TO ADVISE INTERESTED PARTIES OF CERTAIN
RISKS AND OTHER FACTORS THAT MAY AFFECT THE COMPANY'S BUSINESS AND OPERATING
RESULTS, INCLUDING THE DISCLOSURES MADE UNDER THE CAPTION "MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS" IN
THIS REPORT, AS WELL AS THE COMPANY'S OTHER PERIODIC REPORTS ON FORM 10-K, 10-Q
AND 8-K FILED WITH THE SECURITIES AND EXCHANGE COMMISSION.

Historically, the Company's fiscal year was a 52 or 53 week year ending
on the Saturday nearest July 31. During the fiscal year ended July 31, 1997, the
Company modified its accounting period so that each quarter and yearly
accounting period would end on the last day of each month. Accordingly, the
fiscal year ended July 31, 1997 contains four additional days. Unless otherwise
indicated, references herein to specific years and quarters are to the Company's
fiscal years and fiscal quarters.

The Company's principal executive offices are located at 2181 Dupont
Drive, Irvine, California, 92612; its telephone number is (949) 852-1000 X 4257
and its web site is HTTP://WWW.PROCOM.COM.

4
<PAGE> 5

PART I

ITEM 1. BUSINESS

GENERAL

Procom Technology, Inc. ("Procom"), and its wholly owned subsidiaries,
Megabyte Computerhandels AG ("Megabyte"), Invincible Technologies Acquisition
Corporation ("Invincible"), and Procom FSC, all referred to herein as the
"Company",designs, manufactures and markets enterprise-wide data storage and
information access solutions that are compatible with all major hardware
platforms, operating systems and network protocols. During the year ended July
31, 1998, the Company completed the acquisitions of Megabyte, a German based
distributor/reseller of high end networking solutions, and Invincible
Technologies Corporation, a Masschusetts based developer and reseller of high
capacity, fault tolerant network storage solutions. See "Acquisitions."

The Company has become a leading provider of CD-ROM servers and arrays as a
result of its extensive distribution channels as well as the scalability,
performance, ease of use and multi-protocol support of its products. The Company
provides end users with disk drive upgrades for servers, desktop and notebook
computers and also provides high performance, fault tolerant RAID solutions
(Redundant Array of Independent Disks) and tape backup subsystems. The Company
utilizes computer resellers, value-added resellers ("VARs") and distributors to
sell nearly all of its products to a wide variety of end users, including
Fortune 500 corporations, governmental agencies and financial and educational
institutions, while a small amount of higher capacity storage products are sold
directly to end-users.

Recognizing the growing demand for fast and reliable access to large
volumes of information increasingly stored on CD-ROM media across
enterprise-wide networks, the Company introduced the first of its CD server and
array products in early 1994. These products enable a large number of network
users to simultaneously access computer data stored on multiple CD-ROMs. The
Company has recently introduced its CD FORCE server, which provides plug and
play compatibility with most popular operating systems and network topologies
and improves functionality by relieving the network operating system from the
burden of managing requests for access to information stored on CD-ROMs. The CD
FORCE server incorporates Procom's CD FORCE software, which manages network
connectivity and access to information contained on CD-ROMs. The Company has
continued to improve the capacity and performance of its product offerings,
which include the Company's DATAForce products, which provide access to up to 12
Gigabytes of information on CD-ROM to users at disk drive access times.

The Company first developed its expertise in computer data storage products
by providing upgrade storage solutions for desktop computers. Since that time,
the Company has expanded its product offerings to provide upgrade and
replacement disk drive products for notebook computers and servers, which have
become more popular in recent years as client/server computing has proliferated.
The Company's disk drive upgrades allow users to utilize their existing hardware
for longer periods of time, thereby extending the life of their initial
investment. The Company's RAID products provide high performance, fault tolerant
storage of over one terabyte of data for large network information databases.

The key elements of the Company's strategy include the following: (i)
developing additional network storage products incorporating the Company's
proprietary storage management software; (ii) accessing end users in key
vertical markets by leveraging relationships with computer resellers, VARs and
distributors; (iii) expanding relationships with key component suppliers in
order to enable the Company to anticipate and respond to technological
developments; (iv) making selected acquisitions to expand or strengthen the
Company's product offerings or distribution abilities, and (v) delivering timely
storage solutions compatible with all major operating systems and network
topologies.

The Company's CD servers and arrays can be configured for Unix, Novell
NetWare, IBM OS/2 Warp, Windows NT, Windows 95, Windows 3.1 and Macintosh OS,
while supporting different topologies such as Ethernet, FDDI, Fast Ethernet and
Token Ring. The Company's high-capacity storage subsystems will support varying
RAID levels to meet virtually any network or operating system storage
requirements. The Company's major customers include Vanstar Corporation, Entex
Information Services Inc., Inacom Corporation, Ingram Micro, Inc. and Tech Data
Corporation, and end users include Microsoft Corporation, Ernst & Young, Fedex
Corporation, Prudential Insurance Company and Bank One Corporation

5
<PAGE> 6

BACKGROUND

In recent years, there has been a significant migration to client/server
and network computing. Today's networks are much larger and more complex than
early networks, often consisting of multiple servers (application servers, file
servers, database servers and communications servers) and hundreds or even
thousands of desktop clients manufactured by a number of different vendors.
These servers and clients may utilize a number of different operating systems,
including Unix, Novell NetWare, IBM OS/2 Warp, Windows NT, Windows 98, Windows
95, Windows 3.1 and Macintosh OS. The distributed nature of these networks,
together with the increased use of computers throughout organizations to create
and store files, has resulted in an increase in the amount and dispersion of
critical data across the clients and servers on these networks.

As the size of networks and the amount of information used and stored on
those networks have increased, access to such data has become increasingly
important to end users. Users increasingly rely on the information resident on
networks and PCs, such as customer databases, inventory records, sales tracking
reports and research reference materials, for the effective accomplishment of
daily business activities. As a result, end users must have real-time access to
secure and reliable network data, regardless of the location of such data, and
the supporting operating system. These factors have made it complicated to
access information stored on networks.

The increase in the size of networks has been accompanied by concurrent
increases in the size and complexity of computer data and files. Application
software developers continue to introduce software packages that increasingly
incorporate features which require large amounts of storage, such as graphics,
video and sound. For example, a minute of uncompressed full motion video and
sound could require approximately 1,100 megabytes of storage. Similarly, the
size and complexity of images stored and manipulated using document imaging
systems have intensified network storage requirements. Further, the increasing
popularity of the Internet as a means of communication and a medium by which to
access and distribute information has contributed to the demand for increased
storage, as users download a wide variety of complex data from the Internet.

Organizations evaluating alternatives for additional storage capacity must
consider a number of factors, including total cost of ownership, capacity,
access time, security, reliability and the ability to integrate such additional
storage into an existing network. The cost of ownership includes not only the
initial cost of a storage system but also the expenses associated with the
ongoing administration of the network. Administrative costs associated with
network data storage have increased as networks have grown more complex and
systems administrators have been required to monitor storage systems that
support multiple operating systems and multiple applications across numerous
clients.

In response to increased demand for cost-effective storage of different
types of information, a variety of storage media have been developed, including
hard disk, magnetic tape and CD-ROM. Hard disk storage is a popular means of
storing and accessing large amounts of information that is continually changing.
Hard disk storage provides rapid access time but is a relatively expensive
storage medium and is easily erased. Magnetic tape is the least expensive
storage medium, but has the slowest access times. Magnetic tape is therefore
ideal for backing up large amounts of information that is only expected to be
accessed infrequently.

CD-ROM technology emerged in the early 1980s as a cost-effective method by
which to store and distribute large amounts of information. A single CD can
store approximately 650 megabytes of information, the same amount which could be
contained on over 100,000 pages of paper. New DVD-ROMs can store more than 4,000
megabytes of information. In addition, CD-ROMs and DVD-ROMs offer data
reliability and security, as they cannot be altered or erased, are not
susceptible to data loss when computer systems fail and have a life expectancy
of 50 to 100 years. Since CD-ROMs or DVD-ROMs cannot be erased or written over,
however, they are not suitable for storage situations in which information must
be continually updated and altered. However, for organizations that require
periodic distribution of written material, such as law reference books, parts
lists, catalogues or manuals, CD-ROMs and DVD-ROMs are much more cost-effective
and practical than paper-based documents. The proliferation of network computing
and the rapid increase in CD-ROMs as a means of information distribution and
storage have fueled demand for CD-ROM systems that provide network wide access.

RAID storage systems have developed in response to demand for increased
data storage, performance, security, reliability, fault tolerance and
availability, as well as for constant access. RAID is a method for allocating
data across several hard disk drives and allowing a server microprocessor to
access those drives simultaneously, thus increasing system storage and
input/output performance. In addition, lost data on any drive can be recreated
using special RAID algorithms, thus ensuring the immediate availability of RAID
protected data even in the event of a disk drive failure.

6
<PAGE> 7

The increase in the importance and volume of stored, complex data has
increased demand for secure and reliable methods of storage that allow for
efficient and cost-effective protection and management of such data. These
factors have also increased demand for total storage solutions that can quickly
and efficiently provide access to large volumes of data resident on a variety of
clients and servers running different operating environments, as well as data
generated by a wide range of applications. In addition, users are increasingly
demanding solutions comprised of not only hardware for cost-effective storage of
and access to large amounts of secure and reliable information, but also
software that manages information flow and reduces the high costs of network
storage administration.

PROCOM SOLUTION

The Company provides a wide range of products designed to address the data
storage and information access requirements of client/server computing
environments. The Company's CD servers and arrays, disk drive upgrades and RAID
and tape backup subsystems are easy to install and use and have a relatively low
overall cost of ownership. Procom's CD servers and arrays address the use of
CD-ROM as a cost-effective medium for the distribution of large amounts of
information. The Company's RAID and tape backup subsystems provide high
performance, fault tolerant storage of over a terabyte of data for large network
information databases. The Company's CD servers and arrays together with the
Company's RAID and tape product offerings are sometimes referred to as the
Company's "Intelligent Network Storage Products". The Company's disk drive
upgrades allow users to utilize their existing hardware for longer periods of
time, thereby extending the life of their initial investment

The Company's recently introduced CD FORCE CD-ROM network server
incorporates an embedded operating system that centralizes data access
management services, thereby reducing administrative costs. This embedded
operating system is based on the Company's managed enterprise storage
architecture ("DATAFORCE"). DATAFORCE's operating system software is designed to
provide non-intrusive plug and play compatibility with most popular network
operating systems, allowing products incorporating the DATAFORCE architecture to
be installed by simply connecting one cable to the network. The central
processing unit contained in each DATAFORCE-equipped server is designed to allow
the server to manage and process data without burdening the network server. See
"-- Products and Technology -- Products Under Development."

The core elements of the Company's solution include:

Broad Product Line. The Company supplies a wide range of products with a
variety of prices, storage capacities, access times, storage media,
hardware/software combinations and levels of redundancy. The Company's products
are designed to meet a broad spectrum of end user data storage and information
access needs and range from disk drive storage upgrade products to the Company's
DATAForce products, a CD-ROM and hard disk combination, which the Company
believes has the fastest CD-ROM access time and data transfer rates available.
The Company's broad range of products allows its computer reseller and VAR
customers to utilize Procom as a single source to satisfy the storage
requirements of a wide range of end users, thereby reducing the need for
multiple vendors.

Modular and Scalable Design. The Company's products are designed to address
the evolving data storage and information access requirements of enterprise-wide
computing environments. The products are modular and can be linked together to
accommodate a customer's expanding data storage and information access
requirements.

Ease of Installation and Use. The Company's data storage and information
access solutions have been designed for ease of installation, configuration and
use in a variety of client/server networks. Many of the Company's CD servers and
arrays can be added to computer networks by simply attaching them as nodes to
existing network cabling. The Company's recently introduced CD FORCE server
contains a graphical user interface that facilitates end user access to
information contained on CD-ROMs.

Reduced Cost of Ownership. The Company incorporates a number of features
into its products that reduce the costs associated with both the installation of
its products and the down-time of networks and storage systems. The Company's
products include numerous fault tolerant features, such as redundant and
hot-swappable power supplies and fans and hot-swappable disk and CD-ROM drives
that allow users to repair a damaged drive without interrupting the operation of
the network. The Company's CD-ROM and RAID products include features that reduce
administrative costs for network administrators by providing remote management
and notification of actual or potential system or component failures, and its
RAID products also provide automatic reconstruction of data and easy adjustment
of RAID levels. In addition, the operating system software incorporated into the
Company's DATAFORCE

7
<PAGE> 8

architecture is designed to further reduce administrative costs by centralizing
network data storage management.

Multi-platform, Multi-protocol Support. Procom's products are compatible
with a wide range of client networks and operating systems, including Unix,
Novell NetWare, IBM OS/2 Warp, Windows NT, Windows 98, Windows 95, Windows 3.1
and Macintosh OS. In addition, the Company's products support multiple network
topologies such as Ethernet, FDDI, Fast Ethernet and Token Ring. This
compatibility allows customers to implement the Company's storage solutions in a
broad range of enterprise-wide computing environments.

BUSINESS STRATEGY

The Company's objective is to provide products that fulfill customers'
evolving needs for data storage and information access products across all major
computers and operating systems. The key elements of the Company's strategy to
achieve this objective are as follows:

Develop Additional Network Attached Storage Products. The Company is
focused on developing NETFORCE server products that will enable networks to
provide and manage additional storage capacity more efficiently. These products
will share many of the design characteristics of the Company's current CD FORCE
network server, integrating a high performance central processing unit, network
interface card and Procom's proprietary embedded operating system software, and
will be designed to allow users on the network to store and access information
more quickly. The Company plans to develop additional Intelligent Network
Storage Products, such as storage management software and additional servers
that will utilize a variety of storage media, including hard disks (with RAID
functionality) and magnetic tape, which can be attached directly to and will be
compatible with a wide variety of network environments. See "Risk Factors -Rapid
Technological Change; Short Product Life Cycles".

Enhance Reseller and Distributor Relationships. The Company focuses its
marketing efforts on developing an awareness of the Company's data storage and
information access solutions with various computer resellers, VARs and
distributors of its products. These relationships provide the Company with
indirect access to and improved visibility among large corporations and other
institutional end users. The computer resellers, VARs and distributors also
function as a sales force for the Company, allowing the Company to reach a large
number of end users without incurring the significant expenditures associated
with a direct sales force, and provide ongoing service for the Company's storage
systems. The Company intends to sell a broader range of its products and
services to these existing customers. In the future, some of the Company's
higher capacity storage systems may be sold directly to end-users. See "Risk
Factors-Customer Concentration; Distribution Strategy; Inventory Protection".

Target Vertical Markets and End-Users. The Company promotes higher levels
of sales of its CD servers and arrays through its channel partners by targeting
a portion of its marketing efforts to specific end users that require
enterprise-wide access to information published on CD-ROM, such as law and
accounting firms, educational organizations, medical service providers and
governmental agencies. The Company employs a similar strategy with regard to the
sale of its high capacity RAID solutions by targeting its marketing efforts to
end users with large information storage and access requirements, such as
companies that have recently migrated from mainframe computer systems to
personal computer networks, video-on-demand providers and companies developing
electronic imaging and internet and intranet storage intensive applications. The
Company intends to continue to target these vertical markets in the future. In
addition, the Company has sales and support offices in Washington, DC, New York,
Boston, Dallas and Chicago and intends to continue to open additional sales
offices in strategic locations to enhance the Company's ability to market its
products to, and meet with, potential end-users.

Expand Strategic Relationships. The Company seeks to expand its
relationships with the primary suppliers of components of its products,
including drive manufacturers such as Seagate Technology, Inc. and Toshiba and
network software operating system developers such as Novell, Inc. and Microsoft
Corporation and third party storage management software publishers such as
VERITAS. These relationships have provided the Company with early access to
information regarding future product releases and technological developments
that allow the Company to anticipate and respond to market opportunities. The
Company also collaborates with manufacturers regarding the design of many
components that the Company ultimately incorporates into its data storage and
information access products. In addition, the Company maintains relationships
with content providers, such as legal publishers and video suppliers. These
relationships provide the Company with opportunities to receive free publicity
and promotion within niche end user markets when content providers utilize
Procom data storage and information access systems in conjunction with the
display of their own products at trade shows and other marketing events.
Finally, the Company also maintains informal relationships with certain end
users of its products that enable the Company to learn of and respond to
changing end user needs. The

8
<PAGE> 9

Company intends to expand its relationships with suppliers and manufacturers,
content providers and end users in the future. See "Risk Factors-Substantial
Competition; Risk Factors-Rapid Technological Change; Short Product Life
Cycles".

Deliver Timely Solutions. The Company believes that its focus on
cost-effective data storage and information access allows it to remain a
technology leader. The Company has focused on responding quickly to and
capitalizing on demands for specialized data storage and information access
products. The Company anticipates that additional market opportunities will
arise as demand for data storage and information access products continues to
increase, and the Company intends to maintain an organizational structure that
will allow it to quickly respond to these opportunities if they develop.

PRODUCTS AND TECHNOLOGY

The Company's principal product lines are the Intelligent Network Storage
Products, such as CD servers and arrays (including DVD servers and arrays) and
RAID and tape backup subsystems, and disk drive upgrade products. These product
lines accounted for approximately 47% and 53%, respectively, of the Company's
net sales in fiscal 1997 and approximately 52% and 48%, respectively, of the
Company's net sales in fiscal 1998. Many of the Company's products are offered
in a variety of storage capacities and performance levels and, as a result, are
sold at varying prices. See "Risk Factors -- Dependence on CD Servers and
Arrays."

Intelligent Network Storage Products-CD Servers and Arrays

The Company's CD servers and arrays provide an efficient method by which to
store and share large amounts of information across a network. The Company's CD
servers and arrays are available in a variety of plug and play configurations,
from four to 63 CD drives, and can be configured with either 16x, 32x or 40x
CD-ROM drives. In addition, the Company has introduced DATAForce products, a
CD-ROM and hard disk combination, which allows access to information on 10 or 20
CD-ROMs to be available to users at disk drive access times. Several CD arrays
also are available as servers, configured at the Company's factory with
specified hardware and software. The Company provides each CD server and array
with optional software drivers for Unix, Novell NetWare, IBM OS/2 Warp, Windows
NT, Windows 98, Windows 95, Windows 3.1, and Macintosh OS. Many of the Company's
CD servers and arrays contain the Company's built-in "Smart SCSI CD" board,
which maps up to seven CD drives to a single SCSI ID, thereby allowing
additional CD servers and arrays to be added to a network. The Company's CD
FORCE Server incorporates the Company's DATAFORCE architecture and is designed
to (i) provide plug and play compatibility with most popular network operating
systems, (ii) function without burdening the network server and (iii) provide
cross/multi-platform compatibility. The Company's internally developed CD-ROM
network data access management software is not presently available on all major
hardware platforms, and of the Company's CD servers and arrays shipped to date
that contain network data management software, substantially all included
third-party software. See "Risk Factors -- Dependence on CD Servers and Arrays."
In addition, by working with CD manufacturers and component suppliers, the
Company has developed special enclosures to provide security for the CDs and
prevent their loss, theft or damage.

The Company also produces CD-ROM publishing and recording packages as part
of its strategy to capitalize on the use of CD-ROM as a popular information
storage medium for a number of industries. Procom's internal and external
CD-Recorders are designed to meet the archiving needs of desktop computer users.

Intelligent Network Storage Products-RAID and Tape Backup Subsystems

The Company's RAID products present a solution to the storage and
input/output ("I/O") speed, capacity and reliability challenges presented by
network computing. RAID is a method of distributing data in stripes across
several hard disk drives, allowing the microprocessor to access those drives
simultaneously, thus increasing storage system I/O performance. RAID solutions
generally reduce bottlenecks that occur in non-RAID environments when multiple
users access data simultaneously. In addition, RAID configurations can provide a
high degree of fault tolerance because they continuously calculate and store a
unique parity, using logic to accompany each data stripe. If any drive fails,
the remaining drives in the system may use the parity value to reconstruct the
data on the failed drive, thus ensuring the immediate availability of RAID
protected data even in the event of a disk drive failure.

RAID is available in several levels that differ in the ways they allocate
data for storage and achieve fault tolerance. End users of RAID products select
the appropriate RAID level depending on overall cost and performance for their
particular requirements. Often, the user's actual application will dictate the
appropriate level of data access, fault tolerance and redundancy desired. For
example, applications such as on-line processing of financial transactions
require instantaneous access to multiple disks, while multimedia or

9
<PAGE> 10

video-on-demand applications generally require single-user access, but at a
significantly higher data transfer rate. The Company offers RAID products for
all commonly used RAID levels for most hardware platforms and network
environments. In addition, the Company also designs and sells tape backup
storage solutions for a variety of computing environments to provide an
additional level of protection for mission-critical data.

Disk Drive Upgrades

The Company remains committed to supplying products that enhance the
performance and capacity of notebook and desktop computers, as well as network
servers. The addition of a single high-capacity hard disk drive subsystem to a
network server adds several gigabytes of storage capacity and improves overall
speed and performance. A complete installation kit is included with each hard
disk drive for easy integration. Several hard disk drives can be combined to
enable data to be spanned, striped or mirrored in a variety of configurations.
Due to the increase in the popularity of notebook computers, sales of the
Company's ATOM notebook upgrade drive kits constituted 23% of net sales in
fiscal 1997 and 30% of net sales in fiscal 1998.

The Company also offers CD-ROM drives for stand-alone desktop applications
and a variety of other storage peripheral products.

Products Under Development

The Company's product development priorities are aimed at meeting the
growing market demand for complete storage solutions that are capable of
addressing the evolving needs and challenges associated with distributed network
computing. Current product development efforts focus on developing and
integrating the Company's proprietary software as a value-added component of the
Company's complete storage solutions for "Network Attached Storage Products."
The Company is continuing to enhance its DATAFORCE and NETFORCE family of
products (previously referred to by the Company as "MESA"), to address the
growing complexity of network data storage management that has resulted from
increases in heterogeneous network computing environments and the amount and
complexity of data. The DATAFORCE client/server storage management architecture
incorporates an embedded operating system designed to centralize data storage
management services, and thereby reduce administrative costs associated with
data storage management. DATAFORCE's operating system software furnishes it with
non-intrusive plug and play compatibility with most popular network operating
systems, allowing products incorporating the DATAFORCE architecture to be
installed by simply connecting one cable to the network. The multi-platform
support provided by DATAFORCE will enable client workstations to use their own
operating systems and still benefit from the functionality of DATAFORCE without
any additional software. The central processing unit contained in each
DATAFORCE-equipped server is designed to allow the server to manage and process
data without burdening the network server. DATAFORCE is being designed to
provide a cost-effective storage management solution that supports heterogenous
client/server computing environments, is scalable to support networks and allows
clients using multiple operating systems to access simultaneously a single
storage system. DATAFORCE-equipped products enable systems administrators to
manage CD-ROM storage systems and are being designed to manage other storage
systems either locally or remotely and provide administrators with the ability
to monitor and restrict access by end users within the network. The Company's
recently released CD FORCE server incorporates the Company's DATAFORCE
architecture and is designed to centralize data management storage services for
information contained on CD-ROM. See "Intelligent Network Products -- CD Servers
and Arrays." No assurances can be given, however, that the Company will be
successful in any of its product development efforts or that, even if
successfully developed, the Company's products will achieve timely market
acceptance. See "Risk Factors -- Rapid Technological Change; Short Product Life
Cycles" and "-- Research and Development."

CUSTOMERS AND APPLICATIONS

The Company sells its products principally to computer resellers, VARs and
distributors, which in turn sell to end users of the Company's products. During
fiscal 1997 and fiscal 1998, one customer accounted for approximately 12% and 9%
of net sales, respectively. In addition, three customers accounted for
approximately 47% and 36% of total accounts receivable on July 31, 1997 and July
31, 1998, respectively. The loss or financial distress of any of these customers
could have a material adverse effect on the Company's business, financial
condition and results of operations. See "Risk Factors -- Customer
Concentration; Distribution Strategy Risks; Inventory Protection."

End users of the Company's products include Fortune 500 corporations,
government agencies and financial and educational institutions.

10
<PAGE> 11

SALES AND MARKETING

The Company's strategy is to deploy a comprehensive sales, marketing and
support infrastructure to meet the data storage and information access
requirements of users of complex client/server networks, both in the U.S. and
internationally. The Company uses multiple distribution channels to reach end
user customers. In the United States, the Company has agreements with and sells
its products through domestic computer aggregators who operate as both
aggregators and distributors, such as MicroAge, whose distribution arm recently
changed its name to Pinacor, and Inacom Corporation, as well as smaller
independent VARs and computer resellers. The Company also sells its products to
computer resellers that function as corporate computer consultants to large
corporations, educational institutions and governmental agencies, and maintains
sales agreements with many of these consultants. These corporate computer
consultants include GE Information Services, Entex Information Services, Vanstar
Corporation and others. Often these entities, and many of the Company's other
customers, consult with end users of the Company's products in business and
government, and then incorporate the Company's products into larger overall
enterprise solutions. The Company also relies on computer distributors such as
Tech Data Corporation and Ingram Micro to sell the Company's products
nationally. Outside the United States, the Company's products are sold through
approximately 40 major distributors in a number of countries throughout the
world. See "Risk Factors -- Customer Concentration; Distribution Strategy Risks;
Inventory Protection." During the year ended July 31, 1998, the Company acquired
a small German distribution company, Megabyte Computerhandels AG ("Megabyte"),
and now utilizes Megabyte as a European distribution, sales and support
facility.

The Company has agreements with many of its computer resellers, VARs and
distributors relating to purchases of the Company's products. These agreements
do not provide the Company with any guaranteed levels of purchases. The Company
frequently grants limited rights to customers to return products purchased from
the Company, in some cases in exchange for new purchases, and also provides
price protection to its customers. The short product life cycles of the
Company's products and the difficulty in predicting future sales increase the
risk that new product introductions, price reductions by the Company or its
competitors or other factors affecting the personal computer and upgrade storage
industries could result in significant product returns. In addition, new product
introductions by the Company's suppliers or its competitors or other market
factors may require the Company to reduce prices in a manner or at a time that
gives rise to significant price protection charges. The Company estimates
returns and potential price protection charges based on historical experience
and accrues reserves therefor. However, these accruals may prove insufficient,
and future returns and price protection charges may have a material adverse
effect on the Company's business, financial condition and results of operations,
particularly in light of the rapid product obsolescence that often occurs during
product transitions. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."

Historically, the Company enjoyed a relatively short sales cycle due to the
low cost of its disk drive upgrade products. The typical sales cycle, from the
time an end user contacted a reseller to the shipment by the Company of the
desired product, often took less than one week. However, as the Company's
product mix has shifted to increasingly complex and higher priced data storage
and information access solutions, the Company's sales cycle has lengthened
significantly. Because Procom's CD servers and arrays and RAID storage and
access systems often represent a significant expenditure for end users, these
users frequently require the approval of several individuals within their
organization before placing purchase orders. In addition, the complexity of the
Company's storage and RAID storage access solutions often require the Company to
demonstrate its products for end users, further lengthening the sales cycle. In
response to increasing demand from end users, the Company has instituted an
evaluation program that provides for a specified period in which end users may
install and evaluate the Company's products. Evaluation units are not booked as
revenue until the Company has received payment for such units. During fiscal
1997 and fiscal 1998, approximately 48% and 33%, respectively, of all evaluation
units were purchased at the end of their trial period. Evaluations leading to
purchases declined in fiscal 1998 due to a significant number of evaluations of
tape and other storage backup units which were not purchased by end users during
fiscal 1998.

The Company maintains a sales, sales support and marketing staff that at
July 31, 1998 consisted of 124 people, approximately 80 of whom were located at
the Company's principal offices in Irvine, California. The Company's sales are
made to computer resellers, VARs and distributors through telemarketing efforts
by sales representatives. The Company has recently hired U.S. field sales
representatives in Texas, Florida, Washington, DC and New York, and is
considering the implementation of a field sales force in various cities
throughout the U.S. In addition, the Company has recently added independent
sales representatives in Canada and France. The field sales representatives
provide, among other things, regional technical support for customers, perform
product demonstrations and, where desirable, accompany computer resellers and
VARs on sales calls with end users. The acquisition of Megabyte, which sells
Megabyte primarily to German, European and Middle Eastern customers, increased
the percentage of products sold by the Company to international customers
increase for fiscal 1998 compared to fiscal 1997 and 1996. For fiscal 1996, 1997
and

11
<PAGE> 12

1998, international sales represented approximately 11%, 7% and 17%,
respectively, of the Company's net sales. See "Risk Factors -- Risks of
International Sales and Operations."

The Company's marketing group is engaged in a number of activities designed
to help the Company achieve better market recognition and increased sales. This
group's responsibilities include (i) advertising in magazines targeted to
specific markets, (ii) conducting various promotional programs with the
Company's computer resellers, VARs and distributors, including cooperative
advertising arrangements and special programs where employees of the Company's
computer resellers, VARs and distributors can earn cash awards for their efforts
in recommending or selling the Company's products to end users, (iii)
coordinating the Company's participation in various trade shows, including
COMDEX and specific vertical applications shows such as LegalTech and (iv)
cooperating with publishers and authors of industry magazines in the testing and
review of the Company's products, since market acceptance of each new generation
of products is influenced significantly by reviews in leading computer industry
magazines and related awards.

CUSTOMER SERVICE AND SUPPORT

The Company employs engineers and technicians who work closely with the
Company's sales personnel to assist computer resellers, VARs and distributors
and end users with pre- and post-sales support matters, as well as to provide
customers with technical support, education, training and consulting services.
The Company's customer service and technical support staff at July 31, 1998
consisted of approximately 42 people, 22 located in Irvine, California and 10 at
each of Megabyte and Invincible. Customer service personnel provide customer
service through software driver updates, upgrade programs and warranty service.
Technical support personnel assist end users and distributors by telephone,
facsimile and on-line services, including 24-hour bulletin board services and
World Wide Web sites, in the installation, configuration and use of the
Company's products. The Company also relies on its computer resellers, VARs and
distributors to provide technical support and service. During fiscal 1998, the
Company utilized the services of Unisys, a national provider of computer
technical services ("Unisys"), to provide on-site installation and service to
end users of its high capacity CD servers and arrays. The Company offers
warranties on its products ranging from one to five years. The Company's primary
warranty efforts consist of accepting defective products from customers and
either repairing them or returning the defective component to the original
manufacturer for repair or replacement during the applicable warranty period.
The Company generally protects itself by extending to its customers a warranty
that corresponds to the warranty provided to the Company by its suppliers.
However, if a supplier were to fail to meet its warranty obligations, the
Company would be forced to assume responsibility for warranties on all
components manufactured by that supplier. Such an event could have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Risk Factors -- Warranty Exposure."

RESEARCH AND DEVELOPMENT

The Company believes that continued investment in research and development
is critical to the Company's ability to continue to introduce, on a timely basis
and at competitive prices, new and enhanced products incorporating the latest
technology and addressing emerging market needs. The Company's research and
development staff consisted of 37 employees as of July 31, 1998 which includes
software and hardware engineers and software quality assurance technicians.
Research and development expenses, primarily consisting of personnel expenses,
were $1.6 million, $3.9 million and $4.8 million in fiscal 1996, 1997, and 1998,
respectively, constituting 2.2%, 3.6% and 4.3% of net sales, respectively.
(Expenses for fiscal 1998 do not include a one-time write-off of $1.7 million of
in-process research and development costs related to the Company's acquisition
in June 1998 of Invincible Technologies Corporation.) The Company anticipates
that the dollar amount of its research and development expenses will increase
and that such expenses also may increase as a percentage of net sales with the
addition of dedicated engineering resources to develop new product categories,
to ensure that the Company's products are compatible with a wide range of
hardware platforms and network topologies, and to develop additional software
associated with the Company's DATAFORCE architecture, allowing the Company to
develop its NETFORCE products that incorporate the technology developed by the
Company and Invincible, including servers that support not only hard disk drive
and magnetic tape storage media, but also data stored on CD-ROM. The Company's
hardware and software engineers are engaged in ongoing development of new
storage subsystems that offer increasing storage capacity and compatibility with
an expanding base of computer networks and operating systems. See "-- Products
and Technology -- Products Under Development." There can be no assurance that
the Company's development efforts will be successful, or that the Company will
be able to introduce competitive new products in a timely manner. See "Risk
Factors - Rapid Technological Change; Short Product Life Cycles".

The market for the Company's products is characterized by frequent new
product introductions and rapid product obsolescence.

12
<PAGE> 13

These factors typically result in short product life cycles, historically
ranging from six to twelve months. For example, the data transfer rate of CD-ROM
products has increased rapidly, resulting in the introduction of four, sixteen,
twenty-four, and now thirty-two and forty speed CD-ROMs. Similar technological
advances have been made with regard to disk drive storage capabilities and other
performance standards. Each new product cycle presents new opportunities for
current or prospective competitors of the Company to gain market share. The
Company must continually monitor industry trends in selecting new technologies
and features to incorporate into its products. If the Company is unable to
successfully introduce new products on a timely basis, the Company's sales could
be adversely affected. Any such failure also could impair the Company's brand
name and the Company's ability to command the attention and loyalty of computer
resellers, VARs and distributors in future periods. Moreover, because short
product life cycles are accompanied by long lead times for many components of
the Company's products, the Company may be unable to reduce or increase
production in response to unexpected demand.

The Company's ability to introduce new products in a timely manner is
heavily dependent on its ability to develop or purchase firmware and software
drivers for its CD-ROM and disk drive products. While the Company endeavors to
work with its component suppliers to plan for the timing of introduction of new
components and to develop the associated firmware and software, unforeseen
design issues or other factors that delay introduction of these products could
adversely affect the Company's ability to ship new products. In addition, third
party suppliers may not employ adequate testing and quality assurance
procedures, resulting in the receipt by the Company of defective components.
This could require the Company to find replacement components or wait for the
resolution of the problem, either of which could delay the Company's ability to
bring products to market and have a material adverse effect on the Company's
business, financial condition and results of operations. The Company's business
also will be adversely affected if new disk drives, CD-ROM drives or other
components that it selects from among those offered by its various vendors do
not perform favorably on a cost or performance basis compared to competing
products. In addition, products and technologies developed by competitors may
render the Company's products and technologies noncompetitive or obsolete.
Finally, advances in network and on-line technology and development of new,
higher-capacity storage media such as DVD may result in a reduction or
replacement of CD-ROM as a data storage and information access medium. If the
Company is unable to adapt to these and other technological advances by
developing new products, the Company's financial performance would be materially
adversely affected. See "Risk Factors -- Substantial Competition" and "-- Rapid
Technological Change; Short Product Life Cycles."

MANUFACTURING

The Company's primary manufacturing activities, are conducted at the
Company's headquarters in Irvine, California. These activities consist of
testing, assembling and integrating components to form data storage and
information access subsystems. The Company has historically operated without a
material backlog. The Company generally purchases the major components of such
subsystems (hard disk drives, CD-ROM drives or tape drives) based on historical
requirements and forecasted needs to provide it with two to three weeks of
inventory. Some of the Company's products require printed circuit boards, the
assembly of which the Company often subcontracts to third party vendors. The
Company's CD servers and arrays generally require a special housing of either
metal or plastic, and the Company contracts with third party vendors for the
manufacture of those housing units. The Company performs quality assurance
testing on most of its products and subjects third-party supplied components to
testing and evaluation before including such components in the Company's product
offerings. The Company packages the assembled hard disk drives, CD-ROM drives
and tape backup drives with software, manuals and additional hardware
components, which it generally purchases from third party suppliers. The Company
relies on a network of independent subcontractors to supply certain custom
components manufactured to the Company's specifications. This network consists
of a number of small firms with limited financial resources. While the Company
utilizes several firms to mitigate the risk of business interruption, it is
possible that several vendors could simultaneously experience problems with
production or financial stability, which could have a material adverse effect on
the Company's business, financial condition and results of operations.

13
<PAGE> 14

Company's business, financial condition and results of operations. Conversely,
in its attempt to counter actual or perceived component shortages, the Company
may overpurchase certain components, resulting in excess inventory and reducing
the Company's liquidity or, in the event of inventory obsolescence or a decline
in the market value of such inventory, causing inventory write-offs that could
materially adversely affect the Company's business, financial condition and
results of operations.

The Company relies on a small number of suppliers to continue to develop,
introduce and manufacture disk drives, CD-ROM drives and other components that
incorporate new technologies and features that compete favorably in
functionality and price with the offerings of other disk drive and CD-ROM
manufacturers, including competitors of the Company. The Company's dependence on
these sole or limited source suppliers, and the risks associated with any delay
or shortfall in supply, are exacerbated by the short life cycles that
characterize the Company's products. Any delay in the introduction by or
availability of disk drives or CD-ROM drives from the Company's suppliers or the
failure of such suppliers to provide functionality and performance on a cost
effective basis could have a material adverse effect on the Company's business,
financial condition and results of operations. Furthermore, it is possible that
the technology of the components the Company uses in manufacturing its products
will be rendered undesirable or obsolete by the components of other suppliers.
The Company would then be forced to establish relationships with new suppliers,
which could delay or preclude the Company from bringing competitive products to
market and have a material adverse effect on the Company's business, financial
condition and results of operations. See "Risk Factors -- Rapid Technological
Change; Short Product Life Cycles" and "-- Component Shortages; Reliance on Sole
or Limited Source Suppliers."

COMPETITION

The markets for the Company's products are intensely competitive. In each
of its primary product lines, the Company competes with a large number of disk
drive manufacturers, computer resellers, VARs and distributors. Some of the
Company's vendors also sell competing products to distributors, which then sell
these products to the Company's customers. Many of the Company's current and
potential competitors have significantly greater market presence, name
recognition and financial and technical resources than the Company, and many
have longstanding positions and established brand names in their respective
markets. In addition, certain of the Company's current and potential competitors
possess competitive cost advantages due to a number of factors, including lower
taxes and substantially lower costs of labor associated with international
operations. Finally, manufacturers of disk drives such as Seagate Technology
Inc., IBM Corporation, Quantum Corporation and Western Digital Corporation, and
manufacturers of CD-ROM drives, such as Toshiba America Information Systems, NEC
Corporation and Plextor Corporation, may in the future become more direct
competitors of the Company to the extent that such manufacturers elect to expand
into the disk drive upgrade market or the CD server and array market. Such
competitors have substantially greater financial and other resources than the
Company and their competition with the Company could have a material adverse
effect on the Company's business, results of operations and financial condition.

The Company's primary competitors in the CD server and array market consist
of (i) CD array manufacturers such as Microtest, Inc., Meridian Data, Inc. and
Micro Design, Inc., which also furnish CD-ROM management software with their CD
array products, (ii) a number of hardware aggregators, computer resellers and
VARs that sell CD server products directly to end users, (iii) various CD server
and array manufacturers, and (iv) certain computer manufacturers who have
announced plans to sell CD servers and arrays to their resellers, such as Compaq
and Hewlett-Packard. The Company believes that it competes effectively in the CD
server and array market by maintaining relationships with computer resellers and
VARs that possess key relationships with decision makers at end users, while at
the same time developing brand name identity through end user marketing and
advertisements.

The Company's primary competitors in the disk drive upgrade market are (i)
computer manufacturers that also market and sell storage upgrades, such as IBM,
Compaq and Hewlett-Packard, (ii) companies that specialize in reselling
replacement or increased capacity storage disk drives, such as Storage
Dimensions Inc. or Ameriquest Technologies, Inc., and (iii) various national
distributors of third party upgrade drives such as Ingram Micro Inc., Merisel
Inc. and Tech Data Corporation. The Company believes it competes effectively
against each of these three classes of competitors in the disk drive upgrade
market by offering a broad range of reasonably priced storage upgrade products
to its computer resellers, VARs and distributors throughout the U.S. and
worldwide.

The Company's primary competitors in the RAID product market are (i)
computer manufacturers, such as IBM, Compaq and Hewlett-Packard, which generally
focus on providing storage upgrades for their products and (iii) companies that
sell storage solutions directly to end users, such as EMC Corporation and
Storage Technology Corporation. These direct sales competitors historically have
focused their efforts on sales of high capacity storage products in the
mainframe and minicomputer environments. In addition, the Company competes with
many smaller enterprises that provide and sell unique solutions to various
computer users. The Company believes that its relationships with computer
resellers, VARs and distributors provide it with a competitive advantage over

14
<PAGE> 15

those manufacturers that have in the past sold high capacity storage systems
directly to end users.

The Company's success depends to a great extent on its ability to continue
to develop products that incorporate new and rapidly evolving technologies to
provide network users cost-effective data storage and information access
solutions. However, to the extent that disk drive storage or information access
products become more of a commodity, price competition among both computer
manufacturers and suppliers of disk drives and CD-ROM drives may result in the
availability of such storage and access at a low cost. These factors could
create increased competition for the Company's products which could cause the
Company to experience reduced gross profit margins on its products and could
have a material adverse effect on the Company's business, financial condition
and result of operations. The Company believes that the principal competitive
factors in the Company's markets are product reliability, price/value
relationship, product features and performance, brand name recognition, trade
periodical reviews, time to market with new features and products, industry
relationships, ease of installation and use, the quality of distribution
channels, product quality, technical support and customer service.

The Company believes that its brand name recognition allows the Company to
remain competitive in the network storage solutions aftermarket and the CD
server and array markets, and that the Company generally competes effectively
with respect to the other competitive factors enumerated above. See "Risk
Factors -- Substantial Competition" and "-- Rapid Technological Change; Short
Product Life Cycles."

INTELLECTUAL PROPERTY

The Company relies primarily on a combination of copyright and trade secret
protections and confidentiality agreements to establish and protect its
intellectual property rights. The Company has no patent protection for its
current product line. There can be no assurance that the Company's measures to
protect its intellectual property rights will deter or prevent unauthorized use
of the Company's technology. In addition, the laws of certain foreign countries
may not protect the Company's intellectual property rights to the same extent as
the laws of the United States. The Company's inability to protect its
proprietary rights in the United States or internationally may have a material
adverse effect on the Company's business, financial condition and results of
operations.

Claims by third parties that the Company's current or future products,
procedures or processes infringe upon their intellectual property rights may
have a material adverse effect on the Company. The Company does not normally
perform any formal surveys or studies relating to whether its products or
processes infringe upon the intellectual property rights of others, and it would
be difficult to establish whether a given product or process infringes upon the
intellectual property rights of others. Intellectual property litigation is
complex and expensive, and the outcome of such litigation is difficult to
predict. Any future litigation, regardless of outcome, may result in substantial
expense to the Company and significant diversion of the efforts of the Company's
management and technical personnel. An adverse determination in any such
litigation may subject the Company to significant liabilities to third parties,
require disputed rights to be licensed from such parties, if licenses to such
rights could be obtained, or require the Company to cease using such technology.
There can be no assurance that if such licenses were obtainable, they would be
obtainable at costs reasonable to the Company. If forced to cease using such
technology, there can be no assurance that the Company would be able to develop
or obtain alternate technology. Accordingly, an adverse determination in a
judicial or administrative proceeding, changes in patent or copyright laws or
failure of the Company to obtain necessary licenses may prevent the Company from
manufacturing, using or selling certain of its products or processes, which may
have a material adverse effect on the Company's financial condition and results
of operations. For example, in May 1995, Compaq made certain infringement and
other claims against the Company and obtained an injunction prohibiting the
Company's use of a small string of software code contained in certain of the
Company's disk drive products. Although the Company has rewritten the infringing
code and settled the lawsuit, the lawsuit required substantial management time,
significant expenditures for legal fees and costs and a one-time settlement
payment and ongoing royalty payments to Compaq for these products. See "Risk
Factors -- Intellectual Property Rights."

EMPLOYEES

As of July 31, 1998, the Company had 308 full-time employees, 59 of
whom were engaged in manufacturing (including testing, quality assurance and
materials functions), 37 in engineering and product development, 124 in sales
and marketing, 42 in customer service and technical support, and 46 in finance
and administration. The Company's employees are not represented by any
collective bargaining agreements, and the Company has never experienced a work
stoppage. The Company believes that its employee relations are good. The
Company's success depends to a significant extent upon the continued service of
its executive officers and other key management and technical personnel. See
"Risk Factors -- Dependence on Key Personnel."

15
<PAGE> 16

ITEM 2. PROPERTIES

The Company leases approximately 81,000 square feet of space in Irvine,
California for its corporate offices and operations. The property is leased by
the Company under a lease which expired in July 1998, and which was extended
under option until November 1998. The Company's landlord alleges that the lease
was not properly extended by the Company, and has sued the Company in an effort
to require the Company to vacate the premises prior to November 30, 1998. See
"Legal Proceedings."

The Company is now engaged in discussions with the landlord and is
attempting to negotiate a further one or two month extension of the lease. At
the same time, the Company has executed a proposal to lease a 65,000 square foot
facility in Santa Ana, California and is currently engaged in negotiations of a
definitive lease for the facility that would commence on or about December 28,
1998. There can be no assurance that the Company will obtain an extension of its
current lease or enter into a definitive agreement for the new facility. If the
Company is required to vacate its Irvine facility before the Santa Ana facility
or other suitable alternative facilities are available to the Company, the
operations of the Company conducted in Irvine, including manufacturing,
marketing, sales and corporate administration, would be seriously interrupted
and this interruption would have a material adverse affect on the Company's
results of operations and financial condition. In any event, the Company expects
that it will incur significant relocation expenses during the first six months
of fiscal 1999 and increased rental expenses on its new facility. The Company
has recently signed a letter of intent with a third party to purchase an 8.5
acre parcel of land in Irvine, California, where it plans to develop a corporate
headquarters facility, which the Company expects could be ready for occupancy in
the year 2000. In addition to its Irvine headquarters, the Company's facilities
consist of a European headquarters in Munich, Germany as well as offices for
Invincible in Boston, Massachusetts. The Company has also leased office space
for outside sales representatives in Canada, Washington, D.C., New York, Chicago
and Dallas.

ITEM 3. LEGAL PROCEEDINGS.

The Company is a defendant in an action filed in Orange County Superior
Court by Miradco International Corporation, a private company based in Newport
Beach, California, consisting of two principals ("Miradco"), which alleges that
the Company breached an alleged oral contract with Miradco. In its complaint,
Miradco has asserted that it is entitled to receive 280,000 shares of the
Company's Common Stock, which Miradco contends have a value in excess of $5.6
million, as payment for financial advisory services allegedly rendered to the
Company by Miradco. During discovery in the legal action, Miradco has claimed
that it is entitled to receive up to 7% of the Company's Common Stock, with a
minimum of 280,000 shares. The Company vigorously denies the existence of any
oral contract with Miradco, and believes any oral contract claim of Miradco and
the suit are entirely without merit. The Company intends to defend itself
vigorously in this action. The Company has expended approximately $100,000 for
legal costs for this action in the fiscal year ended July 31, 1998, and expects
that it will incur significant additional legal expenses relating to this claim
in fiscal 1999. Trial has been set initially for January 1999. While the Company
believes that Miradco's claims are without merit, there can be no assurance
about the outcome of this case, nor the effect it may have on the financial
condition or results of operations of the Company. If the claims of Miradco were
held to be valid, a judgment for a significant amount could be entered against
the Company, and such judgment could have a material adverse effect on the
Company's results of operations and financial condition.

The Company was recently sued by its landlord, AEW/LBA Acquisition Corp., a
California corporation, in an action filed in August 1998 in Orange County
Superior Court. The landlord alleges that the lease of the Company's primary
facility in Irvine, California, the initial term of which expired in July 1998,
was not properly extended, and the action seeks to declare that the Company is
not rightfully in possession of the facility after such date. The Company
believes the suit is without merit, as the landlord acknowledged in writing the
Company's timely notice of the Company's exercise of an option to extend the
lease until November 30, 1998. The Company further believes it is in full
compliance with the lease, as extended, and is making all payments required
under the lease when they become due. The Company and the landlord are currently
engaged in discussions to extend the lease another one or two months and to
settle the lawsuit. While the Company expects to prevail in the instant action,
there can be no assurance that the landlord will not, in the absence of a
settlement after the lease termination date on November 30, 1998, seek to
require the Company to vacate the property without prior notice. If the Company
is required to vacate the facility before suitable alternative facilities are
available for the Company, the operations of the Company conducted in Irvine,
including manufacturing, marketing, sales and corporate administration, would be
seriously interrupted and this interruption would have a material adverse affect
on the Company's results of operations and financial condition. See
"Properties".

The Company is from time to time involved in other litigation related to
its ordinary operations, such as collection actions and vendor disputes. The
Company does not believe that the resolution of any such other existing claim or
lawsuit will have a material adverse affect on the Company's business, results
of operations or financial condition.

16
<PAGE> 17

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

No matters were submitted to a vote of security holders during the fourth
quarter of fiscal 1998.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTER.

The Common Stock of Procom is listed on the Nasdaq National Market System
under the symbol "PRCM". The approximate number of holders of record of common
stock of the Company as of September 30, 1998 was 66 and the number of
beneficial owners is believed to be in excess of 800. Procom's Common Stock was
first listed on the date it commenced its public offering of shares on December
18, 1996.

The Company has not paid any cash dividends on its common stock and does
not intend to pay any cash dividends in the foreseeable future. The Company's
line of credit agreement restricts the payment of cash dividends.

The range of high and low sales prices of the Company's common stock, as
reported by the Nasdaq National Market System, for each quarter of fiscal 1997
and 1998, commencing with the Company's initial public offering in December 1996
are as follows:

<TABLE>
<CAPTION>
FISCAL 1998
First Quarter Second Quarter Third Quarter Fourth Quarter
------------- -------------- ------------- --------------
<S> <C> <C> <C> <C> <C>
High ....... $18.63 $17.75 $10.75 $ 8.25
Low ........ $10.31 $ 7.81 $ 7.13 $ 5.25
FISCAL 1997 High ....... NA $17.88 $20.13 $14.50
Low ........ NA $ 9.00 $ 9.75 $ 9.88
</TABLE>

ITEM 6. SELECTED FINANCIAL DATA.

FINANCIAL HIGHLIGHTS

<TABLE>
<CAPTION>
YEARS ENDED(1)
-------------------------------------------------------------------------
JULY 30, JULY 28, JULY 26, JULY 31, JULY 31,
1994 1995 1996 1997 1998
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Net sales .......................... $ 34,502 $ 44,660 $ 73,456 $109,332 $111,886
Gross profit ....................... 7,315 11,802 21,967 36,648 36,359
Income (loss) before income taxes .. (1,130) 1,137 4,649 13,899 8,850
Net income (loss) .................. (773) 723 2,849 8,447 5,376
Net income (loss) per share(2) ..... $ (0.08) $ 0.08 $ 0.31 $ 0.81 $ 0.48
Weighted average number of shares(2) 9,172 9,172 9,172 10,374 11,252
Cash and marketable securities ..... $ 211 $ 212 $ 793 $ 18,777 $ 23,362
Working capital .................... $ 1,274 $ 1,868 $ 4,632 $ 29,220 $ 32,873
Total assets ...................... $ 7,638 $ 11,011 $ 21,112 $ 43,274 $ 54,439
Line of credit .................... $ 1,679 $ 1,484 $ 4,185 $ -- $ 210
Long-term obligations ............. $ 39 $ 34 $ -- $ -- $ --
Total shareholders' equity ........ $ 1,564 $ 2,287 $ 5,136 $ 30,067 $ 36,732
</TABLE>

- ----------

(1) During fiscal years 1994-1996, each fiscal year ended on the Friday of,
or nearest to, July 31. During fiscal 1997, the Company modified its
accounting policies so that each fiscal year would end on July 31. As a
result, fiscal 1997 included four additional days. No prior periods have
been adjusted or restated.

(2) See Note 1 of Notes to Consolidated Financial Statements for a
description of the computation of net income (loss) per share.

17
<PAGE> 18

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

This Report on Form 10-K contains forward-looking statements that involve
risks and uncertainties. The Company's actual results may differ significantly
from the results discussed in the forward-looking statements. Factors that might
cause such a difference include, but are not limited to, those discussed in
"Risk Factors Affecting the Company and/or its Industries."

OVERVIEW

The Company was formed in 1987. Its first product was a 5 1/4 inch floppy
disk drive for the IBM PS/2 personal computer. At the time, IBM was shipping the
PS/2 with only a 3 1/2 inch floppy disk drive, although the software and data of
most computer users were still stored on 5 1/4 inch formats. The Company
subsequently began producing aftermarket disk drive upgrade products for
computer products sold by other manufacturers, and such upgrade products
continue to be an important area of focus of the Company's business, and in
fiscal 1994 began to manufacture and market CD-ROM servers and arrays, which
allow network users to simultaneously access information contained on CD-ROM.

In fiscal 1996, sales of CD servers and arrays represented 49% of net
sales, while sales of hard disk drive upgrade products and RAID and tape backup
subsystem products represented 47% and 4% of net sales, respectively. During
fiscal 1997, the Company determined to group sales of Intelligent Network
Storage Products by combining sales of CD servers and arrays together with sales
of RAID and tape backup systems. During fiscal 1997 sales of Intelligent Network
Storage Products increased, while at a slower growth rate, while the Company
also saw increased sales of disk drive upgrade storage systems for notebook
computers. As a result, in fiscal 1997, sales of Intelligent Network Storage
Products, represented approximately 47% of net sales, while sales of hard disk
drive upgrade products represented 53% of net sales. During fiscal 1998, the
Company experienced a reduction in the sales of CD servers and arrays, a
reduction in the sales of commodity disk drive upgrade storage subsystems, and
an increase in the sales of disk drive upgrade storage systems for notebook
computers. In the addition, in fiscal 1998, the Company acquired the operations
of Megabyte and Invincible (see above) and recorded their sales from the dates
of their respective acquisition by the Company. While the sales of Megabyte
and Invincible were of higher capacity storage subsystems, their sales did not
fully offset the slowing growth of CD servers and arrays, and as a result,
approximately 52% and 48% of the Company's fiscal 1998 net sales were of
Intelligent Network Storage Products and disk drive upgrade subsystems,
respectively. See "Business -- Products and Technology."

The Company generally records sales upon product shipment. The Company
presently maintains agreements with many of its computer resellers, VARs and
distributors that allow limited returns (including stock balancing) and price
protection privileges. The Company has in the past experienced high return
rates. During fiscal 1997 and 1998, customer returns and price protection
charges represented approximately 14% and 13% of gross sales, respectively. The
Company maintains reserves for anticipated returns (including stock balancing)
and price protection privileges. These reserves are adjusted at each financial
reporting date to state fairly the anticipated returns (including stock
balancing) and price protection claims relating to each reporting period.
Generally, the reserves will increase as sales and corresponding returns
increase. In addition, under a product evaluation program established by the
Company, computer resellers, VARs, distributors and end users generally are able
to purchase products on a trial basis and return the products within a specified
period if they are not satisfied. Evaluation units are not recorded as sales
until the customer has paid for such units.

The majority of the Company's sales are denominated in U.S. dollars
(although sales of Megabyte are denominated in German marks), and accordingly,
the Company does not believe that fluctuations in foreign exchange rates have
had or will have a material adverse effect on the Company's results of
operations or financial condition, except to the extent that such fluctuations
could cause the Company's products to become relatively more expensive to end
users in a particular country, leading to a reduction of sales in that country.

18
<PAGE> 19

(commencing February 1998) of sales of Megabyte, which had experienced gross
margins of approximately 15% during such period, well below the Company's
average gross margins.

The Company's markets are also characterized by intense competition and
declining average unit selling prices as products mature over the course of the
relatively short life cycle of individual products, which have often ranged from
six to twelve months. In addition, the Company's gross margins may be adversely
affected by availability and price increases associated with key products and
components from the Company's suppliers, some of which have been in short
supply, and inventory obsolescence resulting from older generation products or
the unexpected discontinuance of third party components. Finally, the Company's
margins vary with the mix of its distribution channels and with general economic
conditions. For any of the foregoing reasons, the Company's overall margin could
decline in the future from the levels experienced in recent quarters. See "Risk
Factors -- Potential Fluctuations in Future Results of Operations,"
"-- Component Shortages; Reliance on Sole or Limited Source Suppliers" and
"-- Rapid Technological Change; Short Product Life Cycles."

RESULTS OF OPERATIONS

During fiscal years 1995-1996, each fiscal year ended on the Friday of, or
nearest to, July 31. During fiscal 1997, the Company modified its accounting
policies so that each fiscal year would end on July 31. As a result, fiscal 1997
included four additional days. No prior periods have been adjusted or restated.

COMPARISON OF YEARS ENDED JULY 26, 1996, JULY 31, 1997 AND JULY 31, 1998

The following table sets forth the Company's statement of operations data
as a percentage of net sales for the periods indicated.

<TABLE>
<CAPTION>
YEARS ENDED
-------------------------------------
JULY 26, JULY 31, JULY 31,
1996 1997 1998
------ ------ ------
<S> <C> <C> <C>
Net sales .............................. 100.0% 100.0% 100.0%
Cost of sales .......................... 70.1 66.5 67.5
------ ------ ------
Gross profit ......................... 29.9 33.5 32.5
Selling, general and administrative
expenses ............................. 21.0 17.5 19.9
Research and development expenses ...... 2.2 3.6 4.3
Inprocess R&D charge ................... -- -- 1.5
------ ------ ------
Operating income (loss) .............. 6.7 12.4 6.8
Interest expense ....................... 0.4 (0.3) (1.1)
------ ------ ------
Income (loss) before income taxes .... 6.3 12.7 7.9
Provision (benefit) for income taxes ... 2.4 5.0 3.1
------ ------ ------
Net income (loss) .................... 3.9% 7.7% 4.8%
====== ====== ======
</TABLE>

Net Sales

Net sales increased 48.8% from $73.5 million in fiscal 1996 to $109.3
million in fiscal 1997 and increased an additional 2.3% to $111.9 million in
fiscal 1998. Net sales increased from fiscal 1996 to fiscal 1997 primarily as a
result of increased sales of the Company's CD servers and arrays and increased
sales of its disk drive upgrade products and RAID products. Net sales slightly
increased from fiscal 1997 to fiscal 1998 primarily as a result of increases in
sales of hard disk drive subsystem upgrade products for notebook computers,
and the inclusion of sales of Megabyte and Invincible from the dates of their
respective acquisition by the Company. The increased sales of products above
offset the decline in sales of CD servers and arrays (including sales of higher
performance CD servers) which the Company experienced in fiscal 1998. For fiscal
1998, the slight increases in sales were somewhat offset by increased allowances
for anticipated sales returns and price protection charges as the Company
increased the percentage of its net sales sold to customers who have contractual
return and price protection rights.

International sales, primarily to European customers and secondarily to
Middle Eastern, Latin American and Pacific Rim customers, were $8.4 million,
$8.2 and $19.0 million, and accounted for approximately 11%, 7% and 17% of net
sales for fiscal 1996, 1997 and 1998, respectively. International sales
decreased in absolute dollars slightly in fiscal 1997 as a result of a
strengthened US dollar and reduced sales of CD-ROM servers and arrays due to
increased competition in international markets. Such sales more than

19
<PAGE> 20

doubled from fiscal 1997 to fiscal 1998 as the Company's international sales in
fiscal 1998 included the sales of Megabyte, all of which were made to
international customers, primarily those in Europe and the Middle East. See
"Risk Factors -- Risks of International Sales and Operations."

Gross Profit

The Company's gross profit totaled $22.0 million, $36.7 and $ 36.4 million
during fiscal 1996, 1997 and 1998, respectively. The Company's gross margin
increased from 29.9% in fiscal 1996 to approximately 33.5% in fiscal 1997 due
primarily to a continuing shift in product mix toward higher margin CD servers
and arrays as well as an increase in gross margins for the Company's CD servers
and arrays, and, to a lesser extent, due to an increase in gross margins on the
Company's hard disk drive upgrade and RAID products. Gross margins decreased to
32.5% in fiscal 1998 due primarily to the inclusion of Megabyte sales, which
were made at significantly lower gross margins, combined with the effect of
increasing competition and pricing pressures on the Company's disk drive upgrade
subsystems for notebook computers.

Selling, General and Administrative Expenses

Selling, general and administrative expenses were $15.4 million in fiscal
1996 and further increased 24.7% to $19.2 million in fiscal 1997 and further
increased 16.2% to $22.3 million in fiscal 1998. These expenses represented
21.0%, 17.5% and 19.9% of net sales in fiscal 1996, 1997 and 1998, respectively.
The increase from fiscal 1996 to fiscal 1997 was due primarily to increased
marketing expenses associated with advertising, direct mail and channel
telemarketing, as well as increases in sales commissions and general and
administrative staffing necessary to support the Company's growth. The increase
in fiscal 1998 was due primarily to continued increases in marketing, including
co-op advertising costs, and direct mail and advertising, combined with
increases in other expenses to support the Company's growth. The Company paid
officer bonuses of $.4 million and $ .4 million for fiscal 1998 and fiscal 1997,
respectively. For fiscal 1996, 1997 and 1998, bad debt expense was $473,000,
$223,000 and $53,000, as the Company experienced lower losses on bad debts in
fiscal 1998.

Research and Development Expenses and One-Time Write Off of In Process
Research and Development Costs

Research and development expenses, consisting primarily of personnel
expenses, increased from $1.6 million in fiscal 1996 to $3.9 million in fiscal
1997 and further increased to $4.8 million in fiscal 1998. These expenses
represented 2.2%, 3.6% and 4.3% of net sales in fiscal 1996, 1997 and 1998,
respectively. The slight dollar increase from fiscal 1995 to fiscal 1996
resulted primarily from the Company's enhanced efforts to develop its CD server
and array product lines and RAID subsystems. The increase from fiscal 1996 to
fiscal 1997 was due primarily to the Company's expanded efforts to develop new
CD servers and RAID products and to develop CD FORCE, a CD-ROM network server
incorporating Procom's proprietary software data access management system. For
fiscal 1998, research and development expenses increased by more than 22% over
fiscal 1997, as the Company more than doubled its personnel costs, including the
use of contract programmers. The increased expenses in fiscal 1998 reflect
intensified efforts to further develop both hardware and software capabilities
and applications for its CD-FORCE and RAID products. The Company expects that
its research and development expenses will continue to increase both in absolute
dollars and as a percentage of net sales as it futher develops increasingly
complicated network attached storage solutions for high capacity storage
applications.

In connection with the acquisition of Invincible, the Company identified
and valued the cost of technology which had not, at the date of the acquisition,
reached the stage of technological feasibility, and for which no alternative
future use was foreseeable. The Company determined that approximately $1.7
million of the total purchase price of approximately $2.5 million would be
expensed in the fourth quarter of fiscal 1998. The remaining net purchase price
in excess of the net assets acquired was allocated to various components of
goodwill. See "Acquisitions", below.

Interest Income and Expense

The Company maintains a working capital line of credit to support its
accounts receivable and inventory levels. Interest expense decreased from
$282,000 in fiscal 1996 to $ 131,000 in fiscal 1997 as the Company's sales, and
resulting accounts receivable and inventory levels, increased, although the use
of the Company's credit line to support that increase was reduced in December
1996, when the Company completed its initial public offering, and reduced
amounts outstanding under its credit lines. During fiscal 1998, the Company
incurred interest costs of $15,000 in connection with a small credit line of
Megabyte. The Company invested the net proceeds of the initial public offering,
after repaying amounts owed under its line of credit, in various investment
grade commercial

20
<PAGE> 21

papers with maturities of less than 90 days and realized approximately $ 459,000
and $1,244,000 in interest income for fiscal 1997 and 1998, respectively.

Income Taxes

The Company's effective tax rates were 38.7%, 39.2% and 39.3% for fiscal
1996, 1997 and 1998, respectively. For fiscal 1996 and 1997, the Company's
effective tax rate approximated federal and state statutory rates, with moderate
reductions due to the Company's use of its FSC. For fiscal 1996, the Company
received benefits from a research and development credit, while the fiscal 1997
benefit was significantly reduced due to legislation which temporarily denied
the credit. For fiscal 1998, the effective rate continued to approximate the
effective statutory rate as the Company received increased research and
development credit, offset somewhat by a reduced FSC benefit due to reduced
sales by Procom to international customers See Note 4 of Notes to Consolidated
Financial Statements.

General Comments

The Company's results of operations have in the past varied significantly
and are likely in the future to vary significantly as a result of a number of
factors, including the mix of products sold, the volume and timing of orders
received during the period, the timing of new product introductions by the
Company and its competitors, product line maturation, the impact of price
competition on the Company's average selling prices, the availability and
pricing of components for the Company's products, changes in distribution
channel mix and product returns or price protection charges from customers. Many
of these factors are beyond the Company's control. Although the Company has
experienced growth in sales in recent periods, there can be no assurance that
the Company will experience growth in the future or be profitable on an
operating basis in any future period. In addition, due to the short product life
cycles that characterize the Company's markets, a significant percentage of the
Company's sales each quarter may result from new products or product
enhancements introduced in that quarter. Since the Company relies on new
products and product enhancements for a significant percentage of sales, failure
to continue to develop and introduce new products and product enhancements or
failure of these products or product enhancements to achieve market acceptance
could have a material adverse effect on the Company's business, financial
condition and results of operations. Historically, as the Company has planned
and implemented new products, it has experienced reductions in sales and gross
profit of older generation products as customers have anticipated new products.
These reductions have in the past given, and could continue to give, rise to
charges for obsolete or excess inventory, returns of older generation products
by computer resellers, VARs and distributors or substantial price protection
charges. See "Risk Factors -- Rapid Technological Change; Short Product Life
Cycles" and "-- Customer Concentration; Distribution Strategy Risks; Inventory
Protection." From time to time, the Company has experienced and may in the
future experience inventory obsolescence resulting from the unexpected
discontinuance of third party components, such as disk drives, included in the
Company's products. To the extent the Company is unsuccessful in managing
product transitions, it may have a material adverse effect on the Company's
business, financial condition and results of operations.

The Company also has historically capitalized on short-term market
opportunities for volume purchases of certain components at favorable prices.
For example, in the quarter ended July 26, 1996, the Company capitalized on a
one-time opportunity to sell a significant volume of high capacity disk drive
upgrade products purchased at below market prices in the prior quarter, which
resulted in a price advantage to the Company that enhanced the Company's sales
and results of operations for that quarter. There can be no assurance that the
Company will be able to capitalize on such opportunities in the future. In
addition, the Company's fiscal second quarter sales have historically remained
relatively flat due primarily to heavy reseller participation in trade shows
that detract from reseller selling efforts, end user budget constraints that
restrict end user purchases, and a higher than average number of holidays during
that quarter.

LIQUIDITY AND CAPITAL RESOURCES

For the past three fiscal years, the Company has satisfied its operating
cash requirements principally through net income, supplemented by periodic
borrowings of funds under its working capital line of credit and increases in
accounts payable and accrued expenses, and the cash it raised when it completed
its initial public offering in December 1996. Net cash used in operating
activities was $1.7 million in fiscal 1996, and net cash provided by operating
activities was $6.3 million in fiscal 1997 and $6.1 million in fiscal 1998. In
fiscal 1996, net cash used in operating activities resulted primarily from
increases in accounts receivable due to increased sales during each of the
periods and increases in inventories due to both increased

21
<PAGE> 22

sales and the higher value added components of the Company's products. These
increased uses of capital were offset in part during fiscal 1996 by the
Company's net income and increases in accounts payable and accrued expenses. In
fiscal 1997, net cash provided by operating activities resulted from the
Company's net income, offset slightly by the combined net increases in accounts
receivable and accounts payable. In fiscal 1998, net cash provided by operating
activities resulted from the Company's net income, enhanced slightly by the
Company's efforts to minimize accounts receivable and inventories. In fiscal
1996, 1997 and 1998, the Company's investing activities consisted primarily of
purchases of property and equipment, including, in fiscal 1998, acquisitions of
the net assets of Megabyte and Invincible made in connection with the Company's
acquisitions of each of those companies. Property and equipment expenditures
totaled $431,000, $588,000, and $787,000 for fiscal 1996, 1997 and 1998,
respectively.

During fiscal 1996, 1997 and the first half of fiscal 1998, the Company
borrowed and repaid funds periodically under its line of credit to finance its
growth and operations. During fiscal 1996, the Company increased its line of
credit, net of repayments, by $2.7 million, while in fiscal 1997, the Company
reduced its borrowings by $4.2 million after completing its initial public
offering. During the first half of fiscal 1997, the Company continued its
periodic use of funds under its credit line. In late December 1996, the Company
completed its initial public offering of 2 million shares of common stock,
raising net proceeds of approximately $ 16.2 million. After completing the
public offering, the Company paid off the amounts owed under its line of credit
(see below), and during fiscal 1998, invested the remaining net proceeds in
various investment grade commercial papers with maturities of less than 90 days
and realized approximately $ 1,244,000 in interest income.

In November 1994, the Company instituted a revolving line of credit with
Finova Capital Corporation ("Finova"). The facility was amended in July 1997 to
provide the Company with up to $10.0 million in working capital loans, based
upon the Company's accounts receivable and inventory levels. The line of credit
accrues certain commitment fees, unused facility fees and interest on
outstanding amounts at the lender's prime rate (8.00% at July 31, 1998) plus
1.5%. Finova also makes available to the Company various flooring commitments
pursuant to which the Company may finance the purchase of up to $15.0 million in
inventory (less any amounts outstanding in working capital loans) from certain
of the Company's vendors who have credit arrangements with Finova. As of July
31, 1998, there was no balance outstanding under the credit facility, and $2.3
million outstanding under the flooring arrangements included in accounts
payable. The agreement governing the credit facility requires the Company to
maintain certain financial covenants (including the maintenance of working
capital of at least $20,000,000), minimum levels of tangible net worth and
minimum levels of liquidity. As of July 31, 1998, the Company was in compliance
with the covenants of the Finova line of credit. The line is secured by
substantially all of the assets of the Company. The initial term of the line of
credit expires on November 29, 1998, but automatically renews for successive one
year periods unless terminated by either party within a specified period in
advance of the automatic renewal date. See Note 5 of Notes to Consolidated
Financial Statements. In addition to the Finova line of credit, Megabyte has two
lines of credit, utilized primarily for overdraft and short-term cash needs,
with two German banks. The lines allow Megabyte to borrow up to 1,000,000 German
marks (approximately $550,000 US dollars), with interest at approximately 8.5%,
and is not guaranteed by Procom. At July 31, 1998, there was 375,000 DM
(approximately $ 210,000 US dollars) outstanding under one of the lines, and $0
outstanding on the second.

Subsequent to July 31, 1998, the Company's Board of Directors approved a
stock open market repurchase program. Pursuant to the program, the Company is
authorized to effect repurchases of up to $2 million in shares of its common
stock. The Company expects that it will make such repurchases from time to time,
when it determines that such repurchases are the best available use of the
Company's available cash, given the price of the Company's stock and the
interest income the Company would otherwise earn on the Company's available
cash. The Company has recently signed a letter of intent with the Irvine Company
to purchase an 8.5 acre parcel of land in Irvine, California, where it will
develop a corporate headquarters facility, which the Company expects will be
ready for occupancy in the year 2000. The cost of the land, together with the
currently estimated cost to construct the facility, would approximate $14-15
million. The Company is considering various development and financing options,
and believes that it will have the capital resources available to it to finance
and complete the building during the next two years.

At July 31, 1998, the Company had cash and marketable securities totalling
$23.3 million and additional availability under its unused line of credit. The
Company believes that the cash proceeds from its initial public offering,
together with existing cash balances and available credit under its existing
line of credit, will be sufficient to meet anticipated cash requirements for at
least the next twelve months. As of July 31,1998, the Company had no material
commitments for capital expenditures except for the letter of intent to develop
a corporate headquarters. The Company will continue to acquire fixed assets and
make expenditures to support its growth. In addition, in fiscal 1998, the
Company completed two acquisitions utilizing its own cash and common stock. The
Company has made cash advances to continue the operations of the entities
acquired during fiscal 1998 of approximately $3.5 million. The Company has had
discussions concerning potential acquisitions with various businesses which have
or offer products and technologies that are complementary to those of the
Company. The Company may acquire additional businesses in the future. There can
be no assurance that any such potential acquisitions could or will be completed.
In the event the Company's plans, including the development of the corporate
headquarters or the funds expended in the stock buyback program, require more
capital than is presently anticipated, the Company's remaining cash balances may
be consumed and additional sources of liquidity such as debt or equity
financings may be required to meet working capital needs. There can be no
assurance that additional capital beyond the amounts currently forecasted by the
Company will not be required nor that any such required additional capital will
be available on reasonable terms, if at all, at such time or times as required
by the Company.

ACQUISITIONS

During fiscal 1998, the Company completed two acquisitions. In February
1998, the Company purchased 100% of the outstanding

22
<PAGE> 23
shares of Megabyte, a German distributor of high-end networking solutions. The
transaction was accounted for as a purchase and was effected by the Company's
issuance of 104,144 shares of the Company's common stock valued at $900,000. The
Company recorded the assets and liabilities of Megabyte at their fair values on
the date of acquisition. The purchase price in excess of the fair values of the
net assets acquired was approximately $713,000, which has been recorded as
goodwill, and will be expensed on a straight line basis over 7 years. In June
1998, the Company completed the acquisition of substantially all the assets and
liabilities of Invincible, a Massachusetts-based developer and reseller of high
capacity, fault tolerant network storage solutions. The transaction was
accounted for as a purchase of assets. The purchase price paid consisted of cash
of approximately $1.0 million, and the Company assumed liabilities in excess of
net assets acquired of approximately $1.6 million, for a total purchase price of
approximately $2.6 million. Invincible had experienced significant losses in its
fiscal year ended March 31, 1998. The Company employed an appraiser to identify
the values of the assets acquired, including, among other assets, certain
in-process research and development costs. The Company has determined that,
among other assets, $1.7 million of the purchase price was related to
Invincible's research and development efforts which had not attained
technological feasibility, and for which no alternative future use was expected.
Accordingly, the Company has expensed the value of the research and development
as of the date of the acquisition of Invincible and has capitalized the fair
value of the other assets acquired as determined by the appraiser, including the
value of Invincible's assembled work force and goodwill of approximately
$923,000, which will be expensed on a straight line basis over 7 years. The
Company will include the results of operations and balance sheets of Megabyte
and Invincible for periods subsequent to the date of the respective
acquisitions. Prior periods have not been restated.

RECENT ACCOUNTING PRONOUNCEMENTS

In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive
Income" ("SFAS 130"). SFAS 130 requires that all items that are required to be
recognized under accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements. SFAS 130 is effective for fiscal years beginning
after December 15, 1997 and will be adopted by the Company for its fiscal 1999.
Adoption of this pronouncement is not expected to have a material impact on the
Company's financial statements.

Also in June 1997, the FASB issued Statement of Financial Accounting
Standards No. 131, "Disclosures About Segments of an Enterprise and Related
Information" ("SFAS 131"). SFAS 131 replaces Statement of Financial Accounting
Standards No. 14 and changes the way public companies report segment
information. SFAS 131 is effective for fiscal years beginning after December 15,
1997 and will be adopted by the Company for its fiscal 1999 which commenced July
4, 1998. Adoption of this pronouncement is not expected to have a material
impact on the Company's financial statements.

YEAR 2000 PREPAREDNESS INFORMATION

The Year 2000 issue is the result of computer programs, microprocessors,
and embedded date reliant systems using two digits rather than four to define
the applicable year. If such programs are not corrected, date data concerning
the Year 2000 could cause many systems to fail, lock up or generate erroneous
results. The Company considers a product to be "Year 2000 compliant" if the
product's performance and functionality are unaffected by processing of dates
prior to, during and after the Year 2000, but only if all products (for example
hardware, software and firmware) used with the product properly exchange
accurate date data with it. The Company believes that as data storage devices,
its hard drive products are transparent to Year 2000 requirements, and rely
primarily on software found in operating systems and applications to function
properly. After significant testing, the Company believes its current hard drive
and CD-ROM products are Year 2000 compliant, although other products previously
sold by the Company may not be Year 2000 compliant. In September 1998, the
Company began to offer a Limited Year 2000 Warranty on products sold by the
Company after that date. Previous to September 1998, the Company did not offer
any such warranty on any of its products. The Company anticipates that
litigation may be brought against vendors, including the Company, of all
component products of systems that are unable to properly manage data related to
the Year 2000. The Company's agreements with customers and end users, both for
products sold before and after September 1998, typically contain provisions
designed to limit the Company's liability for such claims. It is possible,
however, that these measures will not provide protection from liability claims,
as a result of existing or future federal, state or local laws or ordinances or
unfavorable judicial decisions. Any such claims, with or without merit, could
result in a material adverse effect on the Company's business, financial
condition and results of operations, customer satisfaction issues and potential
lawsuits.

23
<PAGE> 24
The Company is identifying Year 2000 dependencies in its primary accounting
software, and other systems, equipment, and processes and is implementing
changes to such systems, updating or replacing such equipment, and modifying
such processes to make them Year 2000 compliant. The Company is now assessing
its internal Year 2000 issues and is in the process of remediation of the
critical systems. While the Company's current accounting software systems appear
to be Year 2000 compliant, the Company intends to upgrade those systems during
fiscal 1999, and will insure that Year 2000 compliance is a major factor in the
selection of the appropriate accounting software package. The Company has also
initiated formal communications with many of its significant suppliers and, in
the near future, financial institutions to evaluate their Year 2000 compliance
plans and state of readiness and to determine whether any Year 2000 issues will
impede the ability of such suppliers to continue to provide goods and services
to the Company. As a general matter, the Company is vulnerable to any failure by
its key suppliers to remedy their own Year 2000 issues, which could delay
shipments of essential components, thereby disrupting or halting the Company's
manufacturing operations. Further, the Company also relies, both domestically
and internationally, upon governmental agencies, utility companies,
telecommunication service companies and other service providers outside of the
Company's control. There is no assurance that such suppliers, governmental
agencies, financial institutions, or other third parties will not suffer
business disruption caused by a Year 2000 issue, and there is little practical
opportunity for the Company to test or require Year 2000 compliance from many of
those large agencies, companies or providers. Such failures could have a
material adverse effect on the Company's business, financial condition and
results of operations. Additionally, the Company is in the process of
communicating with its large customers to determine the extent to which the
Company is vulnerable to those third parties' failure to remedy their own Year
2000 issues.

The Company anticipates that its internal systems, equipment and processes
will be substantially Year 2000 compliant by the end of June 1999. A formal
budget has not been established, and the cost to the Company of achieving Year
2000 compliance is evolving; however, such cost is not currently expected to
have a material effect on the Company's financial condition or results of
operations. While the Company currently expects that the Year 2000 issue will
not pose significant internal operational problems, delays in the Company's
remediation efforts, or a failure to fully identify all Year 2000 dependencies
in the systems, equipment or processes of the Company or its vendors, customers
or financial institutions could have material adverse consequences, including
delays in the manufacture, delivery or sale of products. Therefore, the Company
is considering the development of contingency plans along with its remediation
efforts for continuing operations in the event such problems arise.

RISK FACTORS AFFECTING THE COMPANY AND/OR ITS INDUSTRIES

The Company's business is subject to a number of risks, trends and
uncertainties, some of which are related to the CD-ROM server, hard drive and
RAID industries in general and others related more specifically to the Company.
As a result of the risks and uncertainties described below as well as other
risks presented elsewhere in this report, there can be no assurance that the
Company will continue to be as successful as it was in the past few years or
maintain its current market position. Some of these factors have affected the
Company's operating results in the past, and all of these factors could affect
its future operating results. The Company does not expect that the percentage
increases in revenues, operating income and net income during the past few years
represent a consistent reliable trend that can be expected to continue in the
future because, among other reasons,the industries in which the Company competes
are very competitive, challenging and cyclical.

POTENTIAL FLUCTUATIONS IN RESULTS OF OPERATIONS

24
<PAGE> 25

business, financial condition and results of operations. The Company also has
historically capitalized on short-term market opportunities for volume purchases
of certain components at favorable prices. For example, in the quarter ended
July 26, 1996, the Company capitalized on a one-time opportunity to sell a
significant volume of high capacity disk drive upgrade products purchased at
below market prices in the prior quarter, which resulted in a price advantage to
the Company that enhanced the Company's sales and results of operations for that
quarter. There can be no assurance that the Company will be able to capitalize
on such opportunities in the future. In addition, the Company's fiscal second
quarter sales have historically remained relatively flat due primarily to heavy
reseller participation in trade shows that detract from reseller selling
efforts, end user budget constraints that restrict end user purchases, and a
higher than average number of holidays during that quarter.

The volume and timing of orders received during a quarter are difficult to
forecast. Customers generally order on an as-needed basis and, accordingly, the
Company historically has operated with a relatively small backlog.
Notwithstanding the difficulty in forecasting future sales and the relatively
small level of backlog at any given time, the Company generally must plan
production, order components and undertake its development, sales and marketing
activities and other commitments months in advance. Accordingly, any shortfall
in sales in a given quarter may disproportionately affect the Company's results
of operations due to relatively fixed short-term expenses. Due to the foregoing
factors, the Company believes that period-to-period comparisons of its results
are not necessarily meaningful and should not be relied upon as indicators of
future performance. Further, it is likely that in some future quarter or
quarters the Company's net sales or results of operations will be below the
expectations of public market analysts and investors. In such event, the price
of the Common Stock could be materially adversely affected.

Historically, the Company's gross margins have experienced significant
volatility. The Company's gross margins vary significantly by product line, and,
therefore, the Company's overall gross margin varies with the mix of products
sold by the Company. The Company's markets are also characterized by intense
competition and declining average unit selling prices over the course of the
relatively short life cycles of individual products, which have often ranged
from six to twelve months. In addition, the Company's gross margins may be
adversely affected by availability and price increases associated with key
products and components from the Company's suppliers, some of which have been in
short supply, and inventory obsolescence resulting from older generation
products or the unexpected discontinuance of third party components. Finally,
the Company's gross margins may vary with the mix of its distribution channels
and general economic conditions. Accordingly, the Company's margins may decline
in the future from the levels experienced in recent quarters. See "Risk Factors
- -- Component Shortages; Reliance on Sole or Limited Source Suppliers" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."

SUBSTANTIAL COMPETITION

The markets for the Company's products are intensely competitive. In each
of its primary product lines, the Company competes with a large number of disk
drive manufacturers, computer resellers, VARs and distributors. Some of the
Company's vendors also sell competing products to distributors, which then sell
these products to the Company's customers. Many of the Company's current and
potential competitors have significantly greater market presence, name
recognition and financial and technical resources than the Company, and many
have longstanding positions and established brand names in their respective
markets. In addition, certain of the Company's current and potential competitors
possess competitive cost advantages due to a number of factors, including lower
taxes and substantially lower costs of labor associated with international
operations. Finally, manufacturers of disk drives such as Seagate Technology,
Inc., IBM, Quantum Corporation and Western Digital Corporation, and
manufacturers of CD-ROM drives, such as Toshiba America Information Systems,
Inc. ("Toshiba"), NEC Corporation and Plextor Corporation, may in the future
become more direct competitors of the Company to the extent that such
manufacturers elect to expand into the disk drive upgrade market or the CD
server and array market.

The Company's primary competitors in the CD server and array market consist
of (i) CD array manufacturers such as Microtest Inc., Meridian Data, Inc. and
Micro Design, Inc., which also furnish CD-ROM management software with their CD
array products, (ii) a number of hardware aggregators, computer resellers and
VARs that sell CD server products directly to end users and (iii) various CD
server and array manufacturers.

The Company's primary competitors in the disk drive upgrade market are (i)
computer manufacturers that also market and sell storage upgrades, such as IBM,
Compaq Computer Corporation, ("Compaq") and Hewlett-Packard Company
("Hewlett-Packard"), (ii) companies that specialize in reselling replacement or
increased capacity storage disk drives, such as Storage Dimensions Inc. or
Ameriquest Technologies Inc. and (iii) various national distributors of third
party upgrade drives such as Ingram Micro Inc., Merisel Inc. and Tech Data
Corporation.

25
<PAGE> 26

The Company's primary competitors in the RAID product market are (i)
computer manufacturers, such as IBM, Compaq and Hewlett-Packard, which generally
focus on providing storage upgrades for their products and (ii) companies that
sell storage solutions directly to end users, such as EMC Corporation and
Storage Technology Corporation. These direct sales competitors historically have
focused their efforts on sales of high capacity storage products in the
mainframe and minicomputer environments. In addition, the Company competes with
many smaller enterprises that provide and sell unique solutions to various
computer users.

The Company's success depends to a great extent on its ability to continue
to develop products that incorporate new and rapidly evolving technologies to
provide network users cost-effective data storage and information access
solutions. However, to the extent that disk drive storage or information access
products become more of a commodity, price competition among both computer
manufacturers and suppliers of disk drives and CD-ROM drives may result in the
availability of such storage and access at a low cost. These factors could
create increased competition for the Company's products, which could cause the
Company to experience reduced gross profit margins on its products and could
have a material adverse effect on the Company's business, financial condition
and results of operations. The Company believes that the principal competitive
factors in the Company's markets are product reliability, price/value
relationship, product features and performance, brand name recognition, trade
periodical reviews, time to market with new features and products, industry
relationships, ease of installation and use, the quality of distribution
channels, product quality, technical support and customer service. See "Business
- -- Competition."

RAPID TECHNOLOGICAL CHANGE; SHORT PRODUCT LIFE CYCLES

The market for the Company's products is characterized by frequent new
product introductions and rapid product obsolescence. These factors typically
result in short product life cycles, which have often ranged from six to twelve
months. For example, the data transfer rate of CD-ROM products has increased
rapidly, resulting in the introduction of four, eight, ten and twelve speed
CD-ROMs. Similar technological advances have been made with regard to disk drive
storage capabilities and other performance standards. Each new product cycle
presents new opportunities for current or prospective competitors of the Company
to gain market share. The Company must continually monitor industry trends in
selecting new technologies and features to incorporate into its products. If the
Company is unable to introduce new products successfully on a timely basis, the
Company's sales could be adversely affected. Any such failure also could impair
the Company's brand name and the Company's ability to command the attention and
loyalty of computer resellers, VARs and distributors in future periods.
Moreover, because short product life cycles are accompanied by long lead times
for many components of the Company's products, the Company may be unable to
reduce or increase production in response to unexpected demand.

The Company's ability to introduce new products in a timely manner is
heavily dependent on its ability to develop or purchase firmware and software
drivers for its CD-ROM and disk drive products. While the Company endeavors to
work with its component suppliers to plan for the timing of introduction of new
components and to develop the associated firmware and software, unforeseen
design issues or other factors that delay introduction of these products could
adversely affect the Company's ability to ship new products. In addition, third
party suppliers may not employ adequate testing and quality assurance
procedures, resulting in the receipt by the Company of defective components.
This could require the Company to find replacement components or wait for the
resolution of the problem, either of which could delay the Company's ability to
bring products to market and have a material adverse effect on the Company's
business, financial condition and results of operations. The Company's business
also will be adversely affected if new disk drives, CD-ROM drives or other
components that it selects from among those offered by its various vendors do
not perform favorably on a cost or performance basis compared to competing
products. In addition, products and technologies developed by competitors may
render the Company's products and technologies noncompetitive or obsolete.
Finally, advances in network and on-line technology and development of new,
higher-capacity storage media such as Digital Video Disc ("DVD") may result in a
reduction or replacement of CD-ROM as a data storage and information access
medium. If the Company is unable to adapt to these and other technological
advances by developing new products, the Company's financial performance would
be materially adversely affected. See "Business -- Research and Development."

The Company has historically experienced steep declines in sales, prices
and gross profit toward the end of the life cycles of most of its products, the
precise timing of which is difficult to predict. Historically, as the Company
has planned and implemented new products, it has experienced unexpected
reductions in sales and gross profit of older generation products as customers
have anticipated new products. These reductions have in the past given and could
continue to give rise to charges for obsolete or excess inventory, returns of
older generation products by computer resellers, VARs and distributors or
substantial price protection charges. See "-- Customer Concentration;
Distribution Strategy Risks; Inventory Protection." For example, in fiscal 1994,
the Company incurred

26
<PAGE> 27

losses when it discontinued sales of CD-ROM multimedia kits to mass merchants
and distributors. From time to time, the Company has experienced and may in the
future experience inventory obsolescence resulting from the unexpected
discontinuance of third party components, such as disk drives, included in the
Company's products. To the extent the Company is unsuccessful in managing
product transitions, it may have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."

DEPENDENCE ON CD SERVERS AND ARRAYS AND NOTEBOOK UPGRADES

Sales of CD servers and arrays, including individual CD-ROM drives,
recordable CD-ROMs, modules and other related components accounted for
approximately 49%, 44% and 36% of the Company's net sales for fiscal 1996,
fiscal 1997 and fiscal 1998, respectively. The widespread use of CD-ROM as a
data storage and information access medium is relatively recent, and there can
be no assurance that another technology will not replace CD-ROM as a widely
accepted data storage and information access medium, or that there will be
widespread acceptance or continuing growth of CD servers and arrays in general,
or of the Company's CD servers and arrays in particular. Indeed, the Company has
seen a reduction in the demand for CD servers and arrays, primarily, the Company
believes, due to the growth of internet and intranet information distribution
solutions. In addition, if on-line services (such as Westlaw and Lexis/Nexis)
become more cost-effective and develop user friendly methods of accessing
information, they may have an adverse impact on the use of CD-ROM as an
information storage medium. Furthermore, the successful development and
marketing of DVD would enable end users to store significantly more data than
currently stored on a CD used with the Company's products. Accordingly, even if
the Company were able to adapt its products to incorporate DVD technology, the
number of servers and arrays required by end users may decline compared to
current levels. Finally, even if the CD server and array market continues to
grow, there can be no assurance that the Company will be able to maintain its
market share or its gross margins in that market.

The Company currently incorporates software with many of its CD servers and
arrays, which allows a network to manage effectively direct access to
information contained on CD-ROMs by network users. The Company ships CD servers
and arrays both with CD-ROM network data access management software from third
party vendors and with recently introduced, internally developed CD-ROM network
data access management software. The Company's internally developed software is
not presently available on all major hardware platforms, and of the Company's CD
servers and arrays shipped to date that contain CD-ROM network data access
management software, substantially all included third party software. In
addition, the Company historically has focused its efforts on hardware
development and does not have substantial experience in the development, testing
and marketing of CD-ROM network data access management software. Given the high
percentage of the Company's sales that are derived from CD servers and arrays,
the failure to secure from a third party effective CD-ROM network data access
management software, or the failure of the Company to continue the development
and marketing of its internally developed software, could have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Business -- Products and Technology."

In addition to the Company's reliance on CD servers arrays, the Company
also has relied rather heavily on sales of notebook upgrade disk drive
subsystems. The Company believes that with the growth of the notebook computer
market worldwide, many end users will opt to upgrade their storage systems as
they either become too slow, or too limited, given the number of rather storage
intensive programs that exist today. During the fiscal year ended July 31, 1998,
sales of notebook computer upgrade subsystems comprised approximately 30% of
the Company's net sales, and such sales have generally been in excess of the
Company's average gross margins. There can be no assurance that the Company will
be able to maintain the current sales and gross profit rate, as competitors and
computer manufacturers decide whether to enter the market, thereby certainly
causing pricing pressure on such products.

27
<PAGE> 28

COMPONENT SHORTAGES; RELIANCE ON SOLE OR LIMITED SOURCE SUPPLIERS

The Company depends on sole or limited source suppliers for certain key
components used in its products, particularly disk and CD-ROM drives. In recent
years, these components have been in short supply and frequently on allocation
by manufacturers, and the Company's size may place it at a competitive
disadvantage during such periods relative to larger competitors. Although the
Company maintains ongoing efforts to obtain adequate supplies of components,
there can be no assurances that the Company will obtain adequate supplies or
obtain such supplies at cost levels that would not adversely affect the
Company's gross margins. The Company has no guaranteed supply arrangements with
any of its sole or limited source suppliers and customarily purchases sole or
limited source components pursuant to purchase orders placed from time to time
in the ordinary course of business. Moreover, the Company's suppliers may, from
time to time, experience production shortfalls or interruptions that impair the
supply of components to the Company. Component shortages are likely to continue,
and there can be no assurance that such shortages will not adversely affect the
Company's business, financial condition and results of operations. Conversely,
in its attempt to counter actual or perceived component shortages, the Company
may overpurchase certain components, resulting in excess inventory and reducing
the Company's liquidity or, in the event of inventory obsolescence or a decline
in the market value of such inventory, causing inventory write-offs that could
materially adversely affect the Company's business, financial condition and
results of operations. See "-- Rapid Technological Change; Short Product Life
Cycles."

The Company also relies on a network of independent subcontractors to
supply certain custom components manufactured to the Company's specifications.
This network consists of a number of small firms with limited financial
resources. While the Company utilizes several firms to mitigate the risk of
business interruption, it is possible that several vendors could simultaneously
experience problems with production or financial stability, which could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Business -- Manufacturing."

CUSTOMER CONCENTRATION; DISTRIBUTION STRATEGY RISKS; INVENTORY PROTECTION

The Company sells its products primarily to a domestic and international
network of computer resellers, VARs and distributors, and the Company's success
depends on the continued viability and financial stability of its customer base.
During the last two fiscal years, the Company has increased its reliance on
sales to large hardware aggregators, computer resellers and VARs (including
large corporate consultants) while reducing its use of mass merchants. During
fiscal 1997 and fiscal 1998, one customer accounted for approximately 12% and 9%
of net sales, respectively, while three customers accounted for approximately
47% and 36% of the Company's total accounts receivable on July 31, 1997 and July
31, 1998, respectively. If the Company were to experience difficulty in
continuing to sell to these customers, or collecting these accounts receivable,
due to the failure of any of these customers or otherwise, it could have a
material adverse effect on the Company's business, financial condition and
results of operations. In addition, a loss of either or both of these customers
could materially and adversely affect the Company's net sales.

The Company must continually develop and maintain relationships with its
key computer resellers, VARs and distributors. Due to the rapid changes in the
computer industry and the methods by which end users purchase computer products,
there can be no assurance that the Company will be successful in developing and
maintaining an effective distribution system. The computer distribution and
computer retail industries historically have been characterized by rapid change,
including periods of widespread financial difficulties and consolidation and the
emergence of alternative distribution channels. The loss of, or reduction in
sales to, the Company's key customers could have a material adverse effect on
the Company's business, financial condition and results of operations. The
Company's computer resellers, VARs and distributors generally offer products of
several different companies,

28
<PAGE> 29

including products competitive with the Company's products. Accordingly, there
is a risk that these computer resellers, VARs and distributors may give higher
priority to products of other suppliers and may reduce their efforts to sell the
Company's products. Although since fiscal 1994 the Company has relied on
computer resellers and VARs as its primary domestic sales channels, the Company
entered into agreements with Tech Data Corporation and Ingram Micro, Inc.,
computer products distributors, to sell the Company's products nationally. An
increased use of distributors to sell the Company's products, whether
domestically or through increased international sales (which are generally made
through distributors), could adversely affect the Company's gross margins as
sales to distributors are typically made at slightly lower average prices, and
often require additional post-sale marketing and support, than sales to computer
resellers and VARs.

The Company frequently grants limited rights to customers to return
products purchased from the Company, in some cases in exchange for new
purchases, and also provides price protection to its customers. The short
product life cycles of the Company's products and the difficulty in predicting
future sales increase the risk that new product introductions, price reductions
by the Company or its competitors or other factors affecting the markets for the
Company's products could result in significant product returns. In addition, new
product introductions by the Company's suppliers or its competitors, or other
market factors, may require the Company to reduce prices in a manner or at a
time that gives rise to significant price protection charges. The Company
estimates product returns and potential price protection charges based on
historical experience and accrues reserves therefor. However, these accruals may
prove to be insufficient, and unanticipated future returns and price protection
charges could have a material adverse effect on the Company's business,
financial condition and results of operations, particularly in light of the
rapid product obsolescence that often occurs during product transitions. See
"-- Rapid Technological Change; Short Product Life Cycles," "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
"Business -- Sales and Marketing."

INTELLECTUAL PROPERTY RIGHTS

The Company relies primarily on a combination of copyright and trade secret
protections and confidentiality agreements to establish and protect its
intellectual property rights. The Company has no patent protection for its
current product lines. There can be no assurance that the Company's measures to
protect its intellectual property rights will deter or prevent unauthorized use
of the Company's technology. In addition, the laws of certain foreign countries
may not protect the Company's intellectual property rights to the same extent as
the laws of the United States. The Company's inability to protect its
proprietary rights in the United States or internationally may have a material
adverse effect on the Company's business, financial condition and results of
operations.

Claims by third parties that the Company's current or future products,
procedures or processes infringe upon their intellectual property rights may
have a material adverse effect on the Company. The Company does not normally
perform any formal surveys or studies relating to whether its products or
processes infringe upon the intellectual property rights of others, and it would
be difficult to establish whether a given product or process infringes upon the
intellectual property rights of others. Intellectual property litigation is
complex and expensive, and the outcome of such litigation is difficult to
predict. Any future litigation, regardless of outcome, may result in substantial
expense to the Company and significant diversion of the efforts of the Company's
management and technical personnel. An adverse determination in any such
litigation may subject the Company to significant liabilities to third parties,
require disputed rights to be licensed from such parties, if licenses to such
rights could be obtained, or require the Company to cease using such technology.
There can be no assurance that if such licenses were obtainable, they would be
obtainable at costs reasonable to the Company. If forced to cease using such
technology, there can be no assurance that the Company would be able to develop
or obtain alternate technology. Accordingly, an adverse determination in a
judicial or administrative proceeding, changes in patent or copyright laws or
failure of the Company to obtain necessary licenses may prevent the Company from
manufacturing, using or selling certain of its products or processes, which may
have a material adverse effect on the Company's financial condition and results
of operations. In May 1995, Compaq made certain infringement and other claims
against the Company and obtained an injunction prohibiting the Company's use of
a small string of software code contained in certain of the Company's disk drive
products. Although the Company has rewritten the infringing code and settled the
lawsuit, the lawsuit required substantial management time, significant
expenditures for legal fees and costs and a one-time settlement payment and
ongoing royalty payments to Compaq for these products. See "Business --
Intellectual Property."

MANAGEMENT OF CHANGE

In recent years, the Company has expanded the overall size of its business
and scope of its operations, including research and development, marketing,
technical support and sales and distribution. The Company increased its number
of employees from 246 at the beginning of fiscal 1997 to 308 at the end of
fiscal 1998, and has also recently increased the breadth of its CD server and
array

29
<PAGE> 30

product line and its network attached storage products development team,
enlarged the scope of its international operations and increased its marketing
and product development expenditures.

The expansion of the Company's business and product lines has required
significant investments in infrastructure and systems. Managing this change has
presented numerous challenges, including hiring and retaining key employees,
integrating or changing management information systems and coordinating
suppliers. In addition, the Company has recently opened a sales and support
office in New York, and currently intends to open and staff additional field
sales and support offices. In addition, the Company has completed two
acquisitions during fiscal 1998. Each of these acquisitions present special
opportunities and pose risks of not only managing change, but also the
implementation and coordination of companywide strategies to manage the
Company's human and capital resources. The Company's future success will depend
in large measure on its ability to implement sufficient operating, manufacturing
and financial procedures and controls successfully, to improve coordination
among different operating functions, to strengthen management information and
telecommunications systems and to continue to hire qualified personnel in all
areas, and to integrate the operations and personnel of the two existing, and
any potential, acquisitions successfully. The Company's management has not had
previous experience in integrating acquisitions, and there can be no assurance
that the Company will properly manage the acquisitions, or these other
activities and implement these additional systems and controls successfully, and
any failure to do so could have a material adverse effect upon the Company's
business, financial condition and results of operations.

RISKS OF INTERNATIONAL SALES AND OPERATIONS

The Company's international sales accounted for approximately 11%, 7% and
17% of the Company's net sales for fiscal 1996, fiscal 1997 and fiscal 1998,
respectively. During fiscal 1996, the Company added independent sales
representatives in Canada and France, in fiscal 1997, in Dubai, and it plans to
add additional foreign sales representatives in the future. For fiscal 1998, the
Company acquired the operations of Megabyte, which sells its products primarily
to German, European and Middle Eastern customers. As a result, the Company saw
the percentage of products sold to international customers increase
significantly for fiscal 1998 compared to fiscal 1997 and 1996. The Company's
international sales and operations are subject to a number of risks generally
associated with international operations, including export regulations,
government imposed restrictions on the purchase of technological equipment,
import and export duties and restrictions, the logistical difficulties of
managing multinational operations, potentially adverse tax consequences and
lower gross margins associated with the increased proportion of international
sales made to distributors. While the majority of the Company's sales are
denominated in U.S. dollars (Megabyte sales are denominated in German marks),
fluctuations in currency exchange rates could cause the Company's products to
become relatively more expensive to end users in a particular country, leading
to a reduction of sales in that country. In addition, foreign currency exchange
rate fluctuations create risks of exchange rate losses, and the assets of the
Company in Germany could be devalued with little or no notice to the Company.
The Company may also experience competition specific to a given local market. In
addition, the Company's business may be adversely affected by seasonal sales
declines in Europe, which typically occur during the summer months. Because the
Company has operations in different countries, the Company's management must
address the difficulty of merging geographically disparate operations as well as
differences in regulatory environments, cultures and time zones. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Business -- Sales and Marketing."

WARRANTY EXPOSURE

The Company's primary warranty efforts consist of accepting defective
products from customers and either repairing them or returning the defective
component to the original manufacturer for repair or replacement during the
applicable warranty period. In the past, the Company has had return rates of its
products ranging from 10-18%, and in fiscal 1998, the Company experienced return
rates of approximately 14%. The Company generally protects itself by extending
to its customers a warranty that corresponds to the warranty provided to the
Company by its suppliers. However, if a supplier were to fail to meet its
warranty obligations, the Company would be forced to assume responsibility for
warranties on all components manufactured by that supplier. Such an event could
have a material adverse effect on the Company's business, financial condition
and results of operations. See "Business -- Sales and Marketing."

DEPENDENCE ON KEY PERSONNEL

The Company's success depends to a significant extent upon the continued
service of its executive officers and other key management and technical
personnel. In particular, the Company relies on the services of its four
founders, Messrs. Razmjoo, Alaghband, Aydin and Shahrestany (the "Founders").
The loss of any of these individuals or other management or technical personnel

30
<PAGE> 31

may have a material adverse effect on the Company's operations, including the
ability to establish and strengthen strategic relationships, its ability to open
new offices successfully, its ability to adapt its products to changes in
technology and its ability to attract and retain technical personnel and other
employees, the competition for which is intense. The Company maintains
employment agreements with each of the Founders, but does not maintain
key-person life insurance policies on the lives of these individuals. See
"Business -- Employees" and "Management."

FUTURE CAPITAL REQUIREMENTS

The Company's business plan will require significant amounts of working
capital. While the Company has funded its growth historically through working
capital loans and internally generated funds, there can be no assurance that the
proceeds of the Company's December 1996 public offering, together with available
cash, bank lines of credit and cash from operations, will be sufficient to
satisfy the Company's anticipated cash requirements. If additional funds are
required, the Company's operations may need to be significantly curtailed or the
Company could be forced to obtain financing on terms that cause the Company's
business, financial condition and results of operations to be materially
adversely affected.

FUTURE ACQUISITIONS

The Company may expand its product lines through the acquisition of
complementary businesses, products and technologies. Acquisitions involve
numerous risks, including difficulties in the assimilation of operations and
products, the ability to manage geographically remote units, the diversion of
management's attention from other business concerns, the risks of entering
markets in which the Company has little or no experience or expertise and the
potential loss of key employees of any acquired companies. In addition,
acquisitions may involve the expenditure of significant funds. The Company's
management has only recent experience in managing acquisitions. There can be no
assurance that any acquisition would result in long-term benefits to the Company
or that management would be able to effectively manage the acquired business.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations."

FACILITIES

As noted above in "Facilities" and "Legal Proceedings", the landlord of the
Company's primary facility in Irvine, California alleges that the lease on that
facility was not properly extended by the Company, and has sued the Company in
an effort to require the Company to vacate the premises prior to November 30,
1998. The Company and the landlord are currently engaged in discussions to
extend the lease for one or two months and to settle the action, and the Company
has recently executed a lease proposal for a facility in Santa Ana, California.
If the Company is required to vacate the Irvine facility before suitable
alternative facilities are available for the Company, the operations of the
Company conducted in Irvine, including manufacturing, marketing, sales and
corporate administration, would be seriously interrupted and this interruption
would have a material adverse affect on the Company's results of operations and
financial condition. In any event, the Company expects that it will incur
significant relocation expenses during the first six months of fiscal 1999 and
increased rental expenses on its new facility.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKS

INTEREST RATE RISK

The Company's exposure to market risk for changes in interest rates relates
primarily to the increase or decrease in the amount of interest income the
Company can earn on its investment portfolio. The Company does not use
derivative financial instruments in its investment portfolio. The Company
invests in high-credit quality issuers and, by policy, limits the amount of
credit exposure to any one issuer. As stated in its policy, the Company ensures
the safety and preservation of its invested principal funds by limiting default
risk, market risk and reinvestment risk. The Company mitigates default risk by
investing in safe and high-credit quality securities and by constantly
positioning its portfolio to respond appropriately to a significant reduction in
a credit rating of any investment issuer, guarantor or depository. The portfolio
includes only marketable securities with active secondary or resale markets to
ensure portfolio liquidity.

31
<PAGE> 32

FOREIGN CURRENCY EXCHANGE RISK

The Company transacts business in various foreign countries, but
only has significant assets deployed outside the United States in Germany. The
Company has effected intercompany advances and sold goods to Megabyte
denominated in U.S. dollars, and those amounts are subject to currency
fluctuation, and require constant revaluation on the Company's financial
statements. The Company does not operate a hedging program to mitigate the
effect of a significant rapid change in the value of the German mark compared to
the U.S. dollar. If such a change did occur, the Company's would have to take
into account a currency exchange gain or loss in the amount of the change in the
U.S. dollar denominated balance of the amounts outstanding at the time of such
change. While the Company does not believe such a gain loss is likely, and would
not likely be material, there can be no assurance that such a loss would not
have an adverse material effect on the Company's results of operations or
financial condition.

MANAGEMENT

EXECUTIVE OFFICERS

The executive officers of the Company as of July 31, 1998 were as follows:

<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Alex Razmjoo 35 Chairman of the Board, President and Chief Executive Officer
Frank Alaghband 35 Executive Vice President, Operations, and Director
Alex Aydin 35 Executive Vice President, Finance and Administration, and
Director
Nick Shahrestany 34 Executive Vice President, Marketing and Information Technology,
and Director
Frederick Judd 40 Vice President, Finance and General Counsel
</TABLE>

- ----------

All directors hold office until the next annual meeting of shareholders or
until their successors have been elected and qualified. Officers serve at the
discretion of the Board of Directors (the "Board") and are appointed annually,
subject to the terms of their employment agreements. There are no family
relationships between the executive officers or directors of the Company.

Mr. Razmjoo is one of the Company founders and has served as its Chairman
of the Board, President and Chief Executive Officer since 1987. From 1984 to
1987, Mr. Razmjoo served as Director of Engineering of CMS Enhancements, Inc. He
received a B.S. degree in Electrical Engineering in 1985 from the University of
California, Irvine.

Mr. Alaghband is one of the Company founders and has served as its
Executive Vice President, Operations and as a director since 1987. From 1984 to
1987, Mr. Alaghband served as a Systems Engineer in the Computer Systems
Division of McDonnell Douglas. He received a B.S. degree in Electrical
Engineering in 1985 from the University of California, Irvine.

Mr. Aydin is one of the Company founders and has served as the Company's
Executive Vice President, Finance and Administration and as a director since
1987. From December 1984 to August 1987, Mr. Aydin served as a Product
Development Engineer for Toshiba America, Inc. He received dual B.S. degrees in
Electrical Engineering and Biological Sciences in 1984 from the University of
California, Irvine and a M.S. degree in Biomedical Engineering in 1985 from
California State University, Long Beach.

Mr. Shahrestany is one of the Company founders and has served as its
Executive Vice President, Marketing and Information Technology and as a director
since 1987. From 1985 to 1987, Mr. Shahrestany served as Regional Sales Manager
of CMS Enhancements, Inc. He received a B.S. degree in Biological Sciences with
a minor in Electrical Engineering in 1984 from the University of California,
Irvine.

Mr. Judd has served as the Company's Vice President, Finance and General
Counsel since joining the Company in November 1993. Mr. Judd was General Counsel
for CMS Enhancements, Inc. from February 1992 to November 1993. From April 1987
to February 1992, Mr. Judd served as the Chief Financial Officer and Treasurer
of CMS Enhancements, Inc. Mr. Judd received a B.S. degree in Accounting in 1980
from Arizona State University and a J.D. degree in April 1985 from Brigham Young
University. Mr. Judd is a certified public accountant and is licensed to
practice law in California and Arizona.

32
<PAGE> 33

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<S> <C>
Report of Independent Public Accountants................................... F-2
Consolidated Financial Statements:
Consolidated Balance Sheets................................................ F-3
Consolidated Statements of Operations...................................... F-4
Consolidated Statements of Shareholders' Equity............................ F-5
Consolidated Statements of Cash Flows...................................... F-6
Notes to Consolidated Financial Statements................................. F-7
</TABLE>

33
<PAGE> 34

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

The Board of Directors
Procom Technology, Inc.:

We have audited the accompanying consolidated balance sheets of Procom
Technology, Inc. (a California corporation) and its subsidiaries (the "Company")
as of July 31, 1997 and July 31, 1998, and the related consolidated statements
of operations, shareholders' equity and cash flows for each of the three years
in the period ended July 31, 1998. These financial statements and the schedule
referred to below are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and the
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 Procom Technology, Inc. and its
subsidiaries as of July 31, 1997 and July 31, 1998, and the results of their
operations and their cash flows for each of the three years in the period ended
July 31, 1998 in conformity with generally accepted accounting principles.

Our audits were made for the purpose of forming an opinion on the basic
consolidated financial statements taken as a whole. The schedule listed in the
index to the consolidated financial statements is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part
of the basic consolidated financial statements. This schedule has been
subjected to the auditing procedures applied in the audits of the basic
consolidated financial statements and, in our opinion, fairly states in all
material respects the financial data required to be set forth therein in
relation to the basic consolidated financial statements taken as a whole.

ARTHUR ANDERSEN LLP

Orange County, California
October 8, 1998

34
<PAGE> 35

PROCOM TECHNOLOGY, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

ASSETS

<TABLE>
<CAPTION>
JULY 31, JULY 31,
1997 1998
----------- -----------
<S> <C> <C>
Current assets:
Cash ........................................................... $ 227,000 $ 577,000
Short-term marketable securities, held to maturity ............. 18,550,000 22,785,000
Accounts receivable, less allowance for doubtful accounts
and sales returns of $992,000 and $1,329,000, respectively . 12,545,000 15,050,000
Inventories, net ............................................... 9,063,000 9,147,000
Deferred income taxes .......................................... 1,405,000 1,852,000
Prepaid expenses ............................................... 588,000 748,000
Other current assets ........................................... 49,000 223,000
----------- -----------
Total current assets ................................... 42,427,000 50,382,000
Property and equipment, net ...................................... 816,000 2,211,000
Other assets ..................................................... 31,000 1,846,000
----------- -----------
Total assets ........................................... $43,274,000 $54,439,000
=========== ===========

LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:
Line of credit ................................................. $ -- $ 210,000
Accounts payable ............................................... 10,518,000 11,540,000
Accrued expenses and other current liabilities ................. 764,000 2,949,000
Accrued compensation ........................................... 1,462,000 1,321,000
Capital lease obligations ...................................... 29,000 --
Deferred service revenues ...................................... -- 931,000
Income taxes payable ........................................... 434,000 756,000
----------- -----------
Total current liabilities .............................. 13,207,000 17,707,000
----------- -----------
Commitments and contingencies
Shareholders' equity:
Preferred stock, no par value; 10,000,000 shares
authorized, no shares issued and outstanding .............. -- --
Common stock, $.01 par value; 65,000,000 shares authorized,
11,024,562 and 11,178,742, shares issued and outstanding,
respectively ................................................ 110,000 112,000
Additional paid in capital ..................................... 16,467,000 17,751,000
Retained earnings .............................................. 13,490,000 18,866,000
Foreign currency translation adjustment ........................ -- 3,000
----------- -----------
Total shareholders' equity ............................. 30,067,000 36,732,000
----------- -----------
Total liabilities and shareholders' equity ....................... $43,274,000 $54,439,000
=========== ===========
</TABLE>

The accompanying notes are an integral part of these consolidated
balance sheets.

35
<PAGE> 36

PROCOM TECHNOLOGY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
YEARS ENDED
---------------------------------------------------------
JULY 26, JULY 31, JULY 31,
1996 1997 1998
------------- ------------- -------------
<S> <C> <C> <C>
Net sales ................ $ 73,456,000 $ 109,332,000 $ 111,886,000
Cost of sales ............ 51,489,000 72,684,000 75,527,000
------------- ------------- -------------
Gross profit ........ 21,967,000 36,648,000 36,359,000
Selling, general and
administrative expenses 15,401,000 19,155,000 22,257,000
Research and development
expenses ............... 1,635,000 3,922,000 4,788,000
Acquired research and
development ............ -- -- 1,693,000
------------- ------------- -------------
Operating income .... 4,931,000 13,571,000 7,621,000
Interest income .......... -- 459,000 1,244,000
Interest expense ......... (282,000) (131,000) (15,000)
------------- ------------- -------------
Income before income
taxes ............... 4,649,000 13,899,000 8,850,000
Provision for income taxes 1,800,000 5,452,000 3,474,000
------------- ------------- -------------
Net income .......... $ 2,849,000 $ 8,447,000 $ 5,376,000
============= ============= =============

Net income per common
share
Basic .................. $ 0.32 $ 0.83 $ 0.48
============= ============= =============
Diluted ................ $ 0.31 $ 0.81 $ 0.48
============= ============= =============

Weighted average number of
common shares
Basic .................. 9,000,000 10,205,000 11,114,000
============= ============= =============
Diluted ................ 9,172,000 10,374,000 11,252,000
============= ============= =============
</TABLE>

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

36
<PAGE> 37

PROCOM TECHNOLOGY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

<TABLE>
<CAPTION>
COMMON STOCK
--------------------------- PAID IN RETAINED CURRENCY
SHARES AMOUNT CAPITAL EARNINGS ADJUSTMENT TOTAL
------------ ------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Balance at July 28, 1995 ................ 9,000,000 3,000 -- 2,284,000 -- 2,287,000
Net income ............................ -- -- -- 2,849,000 -- 2,849,000
------------ ------------ ------------ ------------ ------------ ------------
Balance at July 26, 1996 ................ 9,000,000 3,000 -- 5,133,000 -- 5,136,000
Change in par value to $.01 per share . -- 87,000 3,000 (90,000) -- --
Public offering proceeds .............. 2,000,000 20,000 16,166,000 -- -- 16,186,000
Compensatory options expense .......... -- -- 35,000 -- -- 35,000
Exercise of employee stock options .... 24,562 -- 62,000 -- -- 62,000
Tax benefit from stock options exercise -- -- 201,000 -- -- 201,000
Net income ............................ -- -- -- 8,447,000 -- 8,447,000
------------ ------------ ------------ ------------ ------------ ------------
Balance at July 31, 1997 ................ 11,024,562 $ 110,000 $ 16,467,000 $ 13,490,000 $ -- $ 30,067,000
============ ============ ============ ============ ============ ============
Exercise of employee stock options .... 50,036 1,000 143,000 -- -- 144,000
Tax benefit from stock options exercise -- -- 242,000 -- -- 242,000
Acquisition of Megabyte ............... 104,144 1,000 899,000 -- -- 900,000
Foreign currency translation adjustment -- -- -- -- 3,000 3,000
Net income ............................ -- -- -- 5,376,000 -- 5,376,000
------------ ------------ ------------ ------------ ------------ ------------
Balance at July 31, 1998 ................ 11,178,742 $ 112,000 $ 17,751,000 $ 18,866,000 $ 3,000 $ 36,732,000
============ ============ ============ ============ ============ ============
</TABLE>

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

37
<PAGE> 38

PROCOM TECHNOLOGY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
YEARS ENDED
------------------------------------------------
JULY 26, JULY 31, JULY 31,
1996 1997 1998
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income ................................... $ 2,849,000 $ 8,447,000 $ 5,376,000
Adjustments to reconcile net
income to net cash provided
by (used in) operating activities:
Depreciation and amortization ............ 194,000 248,000 605,000
Acquired research and development ........ -- -- 1,693,000
Changes in assets and liabilities:
Accounts receivable ................... (3,727,000) (3,311,000) 270,000
Inventories ........................... (5,464,000) 697,000 2,097,000
Deferred income taxes ................. (246,000) (800,000) (405,000)
Prepaid expenses ...................... (38,000) (384,000) 175,000
Other current assets .................. 6,000 (37,000) (23,000)
Other assets .......................... 186,000 (3,000) (20,000)
Accounts payable ...................... 2,724,000 2,264,000 (2,524,000)
Accrued expenses and compensation ..... 1,469,000 (841,000) 638,000
Deferred service revenue .............. -- -- 175,000
Income taxes payable .................. 366,000 (2,000) 255,000
------------ ------------ ------------
Net cash provided by
(used in) operating
activities ...................... (1,681,000) 6,278,000 8,312,000
------------ ------------ ------------
Cash flows from investing activities:
Purchase of property and
equipment .................................. (431,000) (588,000) (787,000)
Acquisitions, net of cash acquired ........... -- -- (633,000)
------------ ------------ ------------
Net cash used in investing
activities ...................... (431,000) (588,000) (1,420,000)
------------ ------------ ------------
Cash flows from financing activities:
Principal payments for capital
lease obligations .......................... (8,000) (5,000) (29,000)
Borrowings on lines of credit ................ 64,825,000 38,500,000 210,000
Payments made on lines of credit ............. (62,124,000) (42,685,000) (2,877,000)
Public offering of common stock .............. -- 16,186,000 --
Stock options, exercises and related tax
benefits ................................... -- 298,000 386,000
------------ ------------ ------------
Net cash provided by (used in)
financing activities ............ 2,693,000 12,294,000 (2,310,000)
Effect of exchange rate changes .............. -- -- 3,000
------------ ------------ ------------
Increase (decrease) in cash ................ 581,000 17,984,000 4,585,000
Cash at beginning of period .................... 212,000 793,000 18,777,000
------------ ------------ ------------
Cash at end of period .......................... $ 793,000 $ 18,777,000 $ 23,362,000
============ ============ ============
Supplemental disclosures of cash flow
information:
Cash paid during the year for:
Interest ................................... $ 248,000 $ 165,000 $ 15,000
Income taxes ............................... 1,472,000 5,947,000 3,312,000
</TABLE>

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

38
<PAGE> 39

PROCOM TECHNOLOGY, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization

Procom Technology, Inc. (the "Company") was incorporated in California in
1987. The Company designs, manufactures and markets enterprise-wide data storage
and information access solutions that are compatible with all major hardware
platforms, network protocols and operating systems.

Principles of Consolidation

The consolidated financial statements include the accounts of Procom
Technology, Inc. and its wholly-owned subsidiaries, Megabyte Computerhandels,
AG, a German corporation, Invincible Technologies Acquisition Corporation, a
Massachusetts corporation and Procom Technology FSC, a foreign sales
corporation. All significant intercompany transactions have been eliminated in
consolidation.

Fiscal Year

For fiscal 1996, the Company's fiscal year ended on the Friday of, or
nearest to, July 31. Fiscal 1996 had 52 weeks. In May 1997, the Company modified
its accounting periods so that the last day of its fiscal quarter and fiscal
year would end on the last day of the calendar month. As a result, the 1997
fiscal year contains four additional days.

Use of Estimates

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

Fair Value of Financial Instruments - Cash and short-term marketable
securities, held to maturity

The carrying amount of cash and cash equivalents approximates fair value
for all periods presented because of the short-term maturities (less than 90
days) of these financial instruments.

Accounts Receivable

The allowance for doubtful accounts includes management's estimate of the
amount expected to be lost on specific accounts and for losses on other as yet
unidentified accounts included in accounts receivable. In estimating the
potential losses on specific accounts, management relies on in-house prepared
analyses and review of other available information. The allowance for sales
returns includes management's estimates of the anticipated sales returns
relating to each reporting period. In estimating the allowance for sales
returns, management relies on historical experience. The amounts the Company
will ultimately realize could differ materially in the near term from the
amounts assumed in arriving at the allowance for doubtful accounts and sales
returns in the accompanying financial statements.

Inventories

Inventories are valued at the lower of cost (on a first-in, first-out
(FIFO) basis) or market. Allowances for obsolete inventory are based on
management's estimate of the amount considered obsolete based on specific
reviews of inventory items. In estimating the allowance, management relies on
its knowledge of the industry (including technological and design changes) as
well as its current inventory levels. The amounts the Company will ultimately
realize could differ materially in the near term from amounts estimated by

39
<PAGE> 40

management.

Property and Equipment

Property and equipment are stated at cost. Depreciation is calculated using
the straight-line method over the respective estimated useful lives of the
assets, which range from three to seven years. Leasehold improvements and assets
under capital leases are amortized using the straight-line method over the
lesser of the lease term or the estimated useful life of the assets.

Expenditures for major renewals and betterments are capitalized, while
minor replacements, maintenance and repairs that do not extend the assets' lives
are charged to operations as incurred. Upon sale or disposition, the cost and
related accumulated depreciation are removed from the Company's accounts and any
gain or loss is included in the statement of operations.

Income Taxes

The Company reports certain expenses differently for financial and tax
reporting purposes and, accordingly, provides for the related deferred income
taxes. Income taxes are accounted for under the liability method in accordance
with Statement of Financial Accounting Standards No. 109.

Revenue Recognition

The Company recognizes revenue from product sales upon shipment, or in the
case of certain distributors, their receipt of the goods shipped. All sales are
denominated in either U.S. dollars or German marks. The Company has established
a program that, under specified conditions, enables distributors and resellers
to return products to the Company for credit against additional purchases or, in
the event the Company reduces its selling prices, to receive credits for the
reduction in selling price. The amount of potential product returns, including
returns under the Company's warranty program, and credits for selling price
reductions are estimated and provided for in the period of the sale. The amounts
the Company will ultimately realize could differ materially in the near term
from the amounts estimated. Under an evaluation program, products may be shipped
to customers on a trial basis and returned within a specified period if the
customers are not satisfied. Evaluation units shipped are not recorded as sales
until the customer has paid for such units.

Deferred Service Revenue

The Company markets and sells service contracts for certain of its products
which require the Company to service previously sold products for a specified
period of time, usually one to three years. Revenue from such contracts are
billed to customers at the time of sale, but earned ratably over the life of the
service agreement. A corresponding liability reflecting the unearned revenue is
recorded as a current liability, since the portion of the unearned revenue
relating to service after twelve months is not material.

Research and Development Costs

Costs and expenses that can be clearly identified as research and
development, including software development costs, are charged to research and
development expenses as incurred.

Concentration of Credit Risk

Three customers accounted for approximately 47% and 36% of the Company's
total accounts receivable on July 31, 1997 and July 31, 1998, respectively, and
one customer accounted for approximately 12% and 9% of the Company's net sales
for fiscal 1997 and 1998, respectively. The loss of any one of the Company's
significant customers could have an adverse effect on the Company's business.

Net income per Common Share

In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128").
SFAS 128 replaced the previously reported primary and fully diluted earnings per
share with basic and diluted earnings per share. Unlike primary earnings per
share, basic earnings per share excludes any dilutive effects of options and
convertible securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per

40
<PAGE> 41

share. The adoption of SFAS 128 did not have a material impact on the Company's
earnings per share. For the periods presented, basic net income per share was
based on the weighted average number of shares of common stock outstanding
during the period. For the same periods, diluted net income per share further
included the effect of stock options outstanding during the period.

Weighted average number of shares for basic and diluted earnings per share
are calculated as follows:

<TABLE>
<CAPTION>
FISCAL YEAR
----------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
Weighted average common shares
outstanding during the
period ..................... 9,000,000 10,205,000 11,114,000
Potential dilution ............ 172,000 169,000 138,000
---------- ---------- ----------
9,172,000 10,374,000 11,252,000
========== ========== ==========
</TABLE>

Employee Stock Plan

In accordance with the provisions of SFAS No. 123, "Accounting for
Stock-Based Compensation," the Company applies APB Opinion No. 25 and related
interpretations to account for its employee stock option plan. Note 9 of the
Consolidated Financial Statements contains a summary of the pro forma effects to
reported net income and earnings per share as if the Company had elected to
recognize compensation expense based on the fair value of the options granted at
grant date as prescribed by SFAS No. 123.

Impact of Recent Accounting Pronouncements

2. INVENTORIES

A summary of inventories is as follows:

<TABLE>
<CAPTION>
JULY 31 JULY 31,
1997 1998
---------- ----------
<S> <C> <C>
Raw materials ........... $5,218,000 $3,643,000
Work-in-process ......... 380,000 430,000
Finished goods .......... 3,465,000 5,074,000
---------- ----------
$9,063,000 $9,147,000
========== ==========
</TABLE>

41
<PAGE> 42

3. PROPERTY AND EQUIPMENT

A summary of property and equipment is as follows:

<TABLE>
<CAPTION>
JULY 31 JULY 31,
1997 1998
----------- -----------
<S> <C> <C>
Computer equipment ............................. $ 819,000 $ 1,884,000
Furniture and fixtures ......................... 567,000 955,000
Office equipment ............................... 710,000 1,079,000
Vehicles ....................................... 82,000 20,000
Leasehold improvements ......................... 77,000 128,000
----------- -----------
2,255,000 4,066,000
Less accumulated depreciation .................. (1,439,000) (1,855,000)
----------- -----------
Total ................................ $ 816,000 $ 2,211,000
=========== ===========
</TABLE>

Depreciation expense for fiscal 1996, 1997 and 1998 totaled $194,000,
$248,000, and $543,000, respectively. In fiscal 1998, amortization of goodwill
was $62,000.

4. INCOME TAXES

The components of the provision for income taxes for fiscal 1996, 1997 and
1998 are summarized as follows:

<TABLE>
<CAPTION>
FISCAL YEAR
---------------------------------------------
1996 1997 1998
----------- ----------- -----------
<S> <C> <C> <C>
Current:
Federal .......................... $ 1,612,000 $ 5,006,000 $ 3,151,000
State ............................ 434,000 1,246,000 770,000
----------- ----------- -----------
2,046,000 6,252,000 3,921,000
----------- ----------- -----------
Deferred:
Federal .......................... (223,000) (670,000) (436,000)
State ............................ (23,000) (130,000) (11,000)
----------- ----------- -----------
(246,000) (800,000) (447,000)
----------- ----------- -----------
Provision for income taxes ......... $ 1,800,000 $ 5,452,000 $ 3,474,000
=========== =========== ===========
</TABLE>

Components of the Company's deferred income tax benefit are presented
below:

<TABLE>
<CAPTION>
FISCAL YEAR
---------------------------------------
1996 1997 1998
--------- --------- ---------
<S> <C> <C> <C>
State tax payments ................. $ 137,000 $ 241,000 $(175,000)
Depreciation ....................... (3,000) (40,000) (12,000)
Inventory reserves ................. 36,000 14,000 14,000
Reserves for bad debts and returns . 102,000 313,000 126,000
Stock option exercises ............. -- 140,000 (140,000)
Amortization of intangibles......... -- -- 570,000
Deferred service revenue ........... -- -- 138,000
Other .............................. (26,000) 132,000 (74,000)
--------- --------- ---------
Deferred income tax benefit ........ $ 246,000 $ 800,000 $ 447,000
========= ========= =========
</TABLE>

The following table reconciles the federal statutory income tax rate to the
effective tax rate of the provision (benefit) for income taxes.

<TABLE>
<CAPTION>
FISCAL YEAR
--------------------------------
1996 1997 1998
------ ------ ------
<S> <C> <C> <C>
Federal statutory income tax rate ................ 34.0% 34.0% 34.0%
State income taxes, net of federal benefit ....... 6.1 6.1 5.8
Foreign sales benefit ............................ (1.1) (0.3) (0.3)
Nondeductible amortization ....................... -- -- 3.1
Research and development tax credit .............. (0.6) (1.8) (5.6)
Other ............................................ 0.3 1.2 2.3
------ ------ ------
Effective tax rate ............................. 38.7% 39.2% 39.3%
====== ====== ======
</TABLE>

Deferred tax assets are summarized below:

<TABLE>
<CAPTION>
JULY 26 JULY 31 JULY 31,
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
Deferred tax assets:
State tax payments ........................ $ 171,000 $ 338,000 $ 175,000
Depreciation .............................. 68,000 26,000 11,000
Inventory reserves ........................ 121,000 225,000 230,000
Reserves for bad debts and returns ........ 201,000 496,000 695,000
Stock option exercises .................... -- 201,000 --
Amortization of intangibles................ -- -- 570,000
Deferred service revenue sales ............ -- -- 138,000
Other ..................................... 44,000 119,000 33,000
---------- ---------- ----------
Deferred income taxes .................. $ 605,000 $1,405,000 $1,852,000
========== ========== ==========
</TABLE>

42
<PAGE> 43

5. OTHER ASSETS

Other assets consist of the following:

<TABLE>
<CAPTION>
JULY 31 JULY 31,
1997 1998
----------- -----------
<S> <C> <C>
Goodwill ..................... $ -- $ 1,636,000
Accumulated amortization ..... -- (62,000)
Other assets ................. 31,000 272,000
----------- -----------
$ 31,000 $ 1,846,000
=========== ===========
</TABLE>

Goodwill relates to two acquisitions completed by the Company in fiscal
1998. Goodwill will be amortized on a straight line basis over 7 years.

6. LINE OF CREDIT

The Company has established a revolving line of credit with an
institutional lender. The line is based on a percentage of the Company's
eligible accounts receivable and inventory, up to a maximum of $10,000,000 in
working capital loans. The line of credit accrues certain commitment fees,
unused facility fees, and interest on outstanding amounts at the lender's prime
rate (8.5% at July 31, 1997) plus 1.5%. The initial term of the line of credit
expires on November 29, 1997, but automatically renews for successive one year
periods unless terminated by either party within a specified period in advance
of the automatic renewal date. The institutional lender also makes available to
the Company various flooring commitments pursuant to which the Company may
finance the purchase of up to $15.0 million in inventory (less any amounts
outstanding in working capital loans) from certain of the Company's vendors who
have credit arrangements with the institutional lender. The combined line of
credit may not exceed $20.0 million and contains restrictive covenants that,
among other provisions, require compliance with certain financial covenants,
including the maintenance of working capital of at least $20,000,000. The
combined line of credit is collateralized by all the assets of the Company. At
July 31, 1997 and July 31, 1998, the Company owed $0 and $0 under the line of
credit and $3,840,000 and $2,300,000, which is included in accounts payable,
under the flooring agreements, respectively (see Note 7). In addition to the
Finova line of credit, Megabyte has two lines of credit, utilized primarily for
overdraft and short-term cash needs, with two German banks. The lines allow
Megabyte to borrow up to 1,000,000 German marks (approximately $550,000 US
dollars), with interest at approximately 8.5%, and is not guaranteed by Procom.
At July 31, 1998, there was 375,000 DM (approximately $ 210,000 US dollars)
outstanding under one of the lines and $0 under the second line of credit.

7. COMMITMENTS AND CONTINGENCIES

Lease Commitments

The Company leases a facility under a noncancellable operating lease that
expires in fiscal 1999. The facility lease contains an option to extend the
lease under the same terms for four months. The Company has exercised the
option, extending the lease until November 30, 1998. In addition, the Company
leases facilities in Munich, Germany and Boston, Massachusetts, and various
other sales offices.

Future minimum lease payments at July 31, 1998, under these leases were as
follows:

<TABLE>
<CAPTION>
CAPITAL OPERATING
LEASE LEASES
--------- ---------
<S> <C> <C>
Fiscal year ending:
1999 .............................................. $ -- $ 476,000
2000 .............................................. -- 114,000
2001 .............................................. -- 119,000
--------- ---------
Total minimum lease payments ...................... -- $ 739,000
=========
Less, amounts representing interest ............... --
---------
Present value of future minimum capital lease
obligations ..................................... $ --
=========
</TABLE>

43
<PAGE> 44

Rent expense was $398,000, $447,000 and $525,000 for fiscal 1996, 1997 and
1998, respectively.

Flooring Agreements

As is customary in the computer reseller industry, the Company is
contingently liable at July 31, 1998 under the terms of repurchase agreements
with several financial institutions providing inventory financing for dealers of
the Company's products. The contingent liability under these agreements
approximates the amount financed, reduced by the resale value of any products
that may be repurchased, and the risk of loss is spread over several dealers and
financial institutions. Losses under these agreements have been immaterial in
the past.

Litigation

The Company is a defendant in an action filed in Orange County Superior
Court by Miradco International Corporation, a private company based in Newport
Beach, California, consisting of two principals ("Miradco"), which alleges that
the Company breached an alleged oral contract with Miradco. In its complaint,
Miradco has asserted that it is entitled to receive 280,000 shares of the
Company's Common Stock, which Miradco contends has a value in excess of $5.6
million, as payment for financial advisory services allegedly rendered to the
Company by Miradco. During discovery in the legal action, Miradco has claimed
that it is entitled to receive up to 7% of the Company's Common Stock, with a
minimum of 280,000 shares. The Company vigorously denies the existence of any
oral contract with Miradco, and believes any oral contract claim of Miradco and
the suit are entirely without merit. The Company intends to defend itself
vigorously in this action. The Company has expended approximately $100,000 for
legal costs for this action in the fiscal year ended July 31, 1998, and expects
that it will incur significant additional legal expenses relating to this claim
in fiscal 1999. Trial has been set initially for January 1999. While the Company
believes that Miradco's claims are without merit, there can be no assurance
about the outcome of this case, nor the effect it may have on the financial
condition or results of operations of the Company. If the claims of Miradco were
held to be valid, a judgment for a significant amount could be entered against
the Company, and such judgment could have a material adverse effect on the
Company's results of operations and financial condition.

The Company is involved in routine litigation arising in the
ordinary course of its business. While the outcome of litigation cannot be
predicted with certainty, the Company believes that none of the other pending
litigation will have a material adverse effect on the Company's financial
position or results of operations.

Employment Agreements

The Company has employment agreements with the Company's President and
three Executive Vice Presidents. Each agreement is for a three year term with an
automatic renewal provision which provides that the agreement will perpetually
maintain a three-year term unless terminated. Each agreement contains severance
provisions that require the payment of 35 months of base salary in the event of
the termination of the covered executives. Should all four executives be
terminated, the aggregate commitment arising under the severance provisions
would be approximately $2.6 million and, in addition, the Company would be
obligated to pay a pro rata bonus for the year of termination and the
continuation for up to two years of all life insurance and medical benefits.

8. RETIREMENT PLAN

The Company has a defined contribution plan covering substantially all
full-time employees with more than one year of service. Each participant can
elect to contribute up to 15% of his or her annual compensation. While employer
contributions to the plan are discretionary, during fiscal 1995, 1996 and 1997,
the Company elected to make matching contributions equivalent to between 38% and
50% of the first 4% of the employee's contribution. Total expense for fiscal
1996, 1997 and 1998 was $47,000, $72,000, and $95,000, respectively.

9. STOCK SPLIT AND STOCK OPTION PLAN

In September 1995, the shareholders of the Company approved a stock split,
whereby each shareholder was issued 10,000 shares of common stock for each share
held.

During fiscal 1996, the Company instituted the 1995 Stock Option Plan (the
"1995 Plan") for its key employees and reserved 540,000 shares for grant under
the 1995 Plan. In fiscal 1998, the Board approved, and the Company's
shareholders approved, the reservation of an additional 450,000 shares for grant
under the 1995 Plan. Pursuant to the terms of the 1995 Plan, options to purchase
the Company's common stock may be granted with exercise prices equal to the fair
market value of the stock on the date of grant. Options expire ten years from
the date of the grant and generally vest over a period of four years. During
fiscal 1998, the Board authorized the repricing of previously granted options
priced in excess of $8.50 per share. The new price was $8.50 per share, the fair
value of the Company's stock on the date of such repricing.

44
<PAGE> 45

The following table is a summary of stock option activity for the three
years ended July 31, 1998:

<TABLE>
<CAPTION>
Year ended July 31,
-------------------------------------------------------------------------------
1996 1997 1998
---------------------- ---------------------- -------------------------
Weighted-Avg. Weighted-Avg. Weighted-Avg.
Shares Exercise Price Shares Exercise Price Shares Exercise Price
-------- -------------- -------- -------------- -------- --------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of year .......... -- $ -- 227,700 $ 2.68 247,013 $ 4.19
Granted .............................. 235,050 $ 2.67 87,750 $ 8.55 351,800 $ 9.64
Exercised ............................ (--) $ -- (24,562) $ 2.53 (50,036) $ 2.83
Cancelled ............................ (7,350) $ 2.50 (43,875) $ 5.26 (46,500) $ 7.38
-------- -------- --------
Outstanding at end of year ........... 227,700 $ 2.68 247,013 $ 4.19 502,277 $ 6.53
======== ======== ========
Exercisable end of year .............. -- $ -- 36,338 $ 2.76 47,090 $ 4.06
======== ======== ========
Weighted fair value per option granted $ .56 $ 6.13 $ 4.77
</TABLE>

<TABLE>
<CAPTION>
July 31, 1998
-------------------------------------------------------------------------
Options Outstanding Options Exercisable
-------------------------------------------------------------------------
Weighted-Average Weighted- Weighted-
Range of Remaining Average Average
Exercise Prices Number Years Exercise Price Number Exercise Price
--------------- ------ ---------------- -------------- ------ --------------
<S> <C> <C> <C> <C> <C>
$ 2.50-3.00 110,077 7.14 $ 2.52 29,152 $ 2.53
$ 4.50-7.56 155,250 9.64 $ 6.36 8,626 $ 4.50
$ 8.33-8.50 236,950 9.09 $ 8.49 9,313 $ 8.47

$ 2.50-8.50 502,277 8.83 $ 6.53 47,091 $ 4.06
</TABLE>

During the years ended July 31, 1997 and July 31, 1998, the Company
realized tax benefits of $201,000 and $ 242,000, respectively, from the gains
resulting from exercises by employees of non-qualified stock options. The tax
benefit is recorded as an increase in paid-in-capital.

In addition to the September 1995 stock split discussed above, the Company
filed amended and restated articles of incorporation on November 13, 1996,
which, among other things, effected a stock split pursuant to which each
shareholder was issued three shares of common stock for each common share held.
All share and per share amounts have been restated to give retroactive effect to
this stock split as well as the September 1995 stock split.

Pro forma information regarding net income and earnings per share is
required by SFAS 123 for stock options granted after June 30, 1996 as if the
Company had accounted for its stock options under the fair value method of SFAS
123. The fair value of the Company's stock options was estimated using the
Black-Scholes option valuation model. The Black-Scholes option valuation model
was developed for use in estimating the fair value of traded options which have
no vesting restrictions and are fully transferable. In addition, the
Black-Scholes model requires the input of highly subjective assumptions,
including the expected stock volatility. Because the Company's stock options
granted to employees have characteristics significantly different from those of
traded options,

45
<PAGE> 46
and because changes in the subjective input assumptions can materially affect
the fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its stock
options granted to employees. The fair value of the Company's stock options
granted to employees was estimated assuming no expected dividends and the
following weighted average assumptions:

<TABLE>
<CAPTION>
STOCK OPTION
PLAN SHARES
-----------------------
1997 1998
------- -------
<S> <C> <C>
Expected life (in years) ..... 4.0 4.0
Risk-free interest rate ....... 6.0% 6.0%
Volatility .................... .91 .79
</TABLE>

For purposes of pro forma disclosures, the estimated fair value of the
options is amortized over the options' vesting period. The Company's pro forma
information follows:

<TABLE>
<CAPTION>
1997 1998
------------- -------------
<S> <C> <C>
Pro forma net income ....... $8,325,000 $5,197,000
Pro forma primary net income
per share ............. $ .81 $ .46
</TABLE>

The effects on pro forma disclosures of applying SFAS 123 are not likely to
be representative of the effects on pro forma disclosures of future years.

10. GEOGRAPHIC

Export sales as a percentage of net sales amounted to 11%, 7% and 17% for
fiscal years 1996, 1997 and 1998, respectively. A summary of the Company's net
sales and gross profit by geographic area is as follows (in thousands):

<TABLE>
<CAPTION>
YEAR ENDED
----------------------------------------
JULY 26, JULY 31, JULY 31,
1996 1997 1998
-------- -------- --------
<S> <C> <C> <C>
Net sales
United States ...... $ 65,072 $101,147 $ 92,928
Foreign ............ 8,384 8,185 18,958
-------- -------- --------
Total ......... $ 73,456 $109,332 $111,886
======== ======== ========
Gross profit
United States ...... $ 20,004 $ 34,409 $ 32,968
Foreign ............ 1,963 2,239 3,391
-------- -------- --------
Total ......... $ 21,967 $ 36,648 $ 36,359
======== ======== ========
Operating income
United States ...... $ 3,554 $ 12,405 $ 7,366
Foreign ............ 1,377 1,166 255
-------- -------- --------
Total ......... $ 4,931 $ 13,571 $ 7,621
======== ======== ========
</TABLE>

International sales were primarily to European customers and secondarily to
Middle Eastern, Latin American and Pacific Rim customers. During fiscal 1996 and
1997, the Company had no material identifiable assets used in connection with
the Company's foreign operations. As a result of the Company's February 1998
acquisition of the outstanding stock of Megabyte, at July 31, 1998, the Company
had identifiable assets used in connection with its foreign operations of
approximately $4,844,000.

11. ACQUISITIONS

During fiscal 1998, the Company completed two acquisitions. In February
1998, the Company purchased 100% of the outstanding shares of Megabyte
Computerhandels AG, a German distributor of high-end networking solutions. The
transaction was accounted for as a purchase, and was effected by the Company's
issuance of 104,144 shares of the Company's common stock valued at $900,000. The
Company recorded the assets and liabilities of Megabyte at their fair values on
the date of acquisition. The purchase price in excess of the fair values of the
net assets acquired was approximately $713,000, which has been recorded as
goodwill, and will be expensed on a straight line basis over 7 years. In June
1998, the Company completed the acquisition of substantially all the assets and
liabilities of Invincible Technologies Corporation ("ITC"), a Massachusetts
based developer and reseller of high capacity, fault tolerant network storage
solutions. The transaction was accounted for as a purchase of assets. The
purchase price paid consisted of
46
<PAGE> 47

cash of approximately $1.0 million, and the Company assumed liabilities in
excess of net assets acquired of approximately $1.6 million, for a total
purchase price of approximately $2.6 million. ITC had experienced significant
losses in its fiscal year ended March 31, 1998. The Company employed an
appraiser to identify the values of the assets acquired, including, among other
assets, certain in-process research and development costs. The amount of
purchase price allocated to in-process research and development was determined
by estimating the stage of development of Invincible's research and development
projects, estimating future cash flows from future projected revenues, and
discounting those cash flows to present value. Invincible had been primarily
developing a software cluster management system to extend the capability of UNIX
clustering. In determining the appropriate value, the Company considered the
prior losses of Invincible, the investment of Invincible toward the development
of the outstanding software system, as well as the estimated completion costs
which the Company expects to incur to complete the outstanding research and
development projects. The Company further estimated the future revenues and cash
flows attainable from the research and development projects, and discounted
those revenues significantly to take into account Invincible's lack of financing
to attain the projections. The Company has determined that $1.7 million of the
purchase price was related to the Company's research and development efforts
which had not attained technological feasibility, and for which no alternative
future use was expected. The Company has expensed the value of the research and
development as of the date of the acquisition of Invincible and has capitalized
the fair value of the other assets acquired as determined by the appraiser,
including the value of Invincible's assembled work force and goodwill of
approximately $913,000, which will be expensed on a straight line basis over 7
years. The Company will include the results of operations and balance sheets of
Megabyte and Invincible for periods subsequent to the date of the respective
acquisitions. Prior periods have not been restated.

The following is a summary of the net fair value of the assets acquired,
the goodwill on the date of acquisition, and the total consideration paid for
the acquisitions made during fiscal 1998:

Megabyte Invincible Total
-------- ---------- -----
<S> <C> <C> <C>
Fair value of noncash assets acquired $4,755,000 $5,431,000 $10,186,000
Liabilities assumed, including lines of credit (4,008,000) (4,643,000) (8,651,000)
Common stock issued (902,000) -- (902,000)
----------- ----------- -----------
Cash consideration paid, net of cash acquired (155,000) 788,000 633,000
=========== =========== ===========
</TABLE>

The following unaudited pro forma information has been prepared assuming
that the acquisitions of Megabyte and Invincible had taken place at the
beginning of the respective periods presented. The pro forma financial
information is not necessarily indicative of the combined results that would
have occurred had the acquisitions taken place at the beginning of the period,
nor is it necessarily indicative of results that may occur in the future.

<TABLE>
<CAPTION>
(UNAUDITED)
PRO FORMA FOR THE YEARS ENDED
July 31, 1997 July 31, 1998
------------- -------------
(in thousands, except per share data)
<S> <C> <C>
Revenues $160,584 $135,576
Operating income $ 10,193 $ 5,381
Net income $ 5,982 $ 3,732
Net income per share--diluted $ .57 $ .33
</TABLE>

12. CHANGE IN PAR VALUE

The Company's amended and restated articles of incorporation, filed on
November 13, 1996, as discussed above in Note 10, also effected a change in
common stock from no par value to par value of $.01 per share. In fiscal 1997,
$89,700 was transferred from retained earnings to common stock and
paid-in-capital to reflect the change in par value.

47
<PAGE> 48

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

None.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

There is incorporated herein by reference the information required by this
Item included in the Company's Proxy Statement for the 1998 Annual Meeting of
Shareholders under the captions "Management," "Election of Directors" and
"Section 16(a) Beneficial Ownership Reporting Compliance," which will be filed
with the Securities and Exchange Commission no later than 120 days after the
close of the fiscal year ended July 31, 1998.

ITEM 11. EXECUTIVE COMPENSATION

There is incorporated herein by reference the information required by this
Item included in the Company's Proxy Statement for the 1998 Annual Meeting of
Shareholders under the captions "Executive Compensation," "Compensation
Committee Interlocks and Insider Participation" and "Stock Performance Graph,"
which will be filed with the Securities and Exchange Commission no later than
120 days after the close of the fiscal year ended July 31, 1998.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

There is incorporated herein by reference the information required by this
Item included in the Company's Proxy Statement for the 1998 Annual Meeting of
Shareholders under the caption "Security Ownership of Beneficial Owners," which
will be filed with the Securities and Exchange Commission no later than 120 days
after the close of the fiscal year ended July 31, 1998.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

There is incorporated herein by reference the information required by this
Item included in the Company's Proxy Statement for the 1998 Annual Meeting of
Shareholders under the caption "Certain Relationships and Related Transactions,"
which will be filed with the Securities and Exchange Commission no later than
120 days after the close of the fiscal year ended July 31, 1998.

PART IV

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

(a) DOCUMENTS FILED AS A PART OF THIS REPORT:

(1) INDEX TO FINANCIAL STATEMENTS
The financial statements included in Part II, Item 8 of this
document are filed as part of this Report.

(2) FINANCIAL STATEMENT SCHEDULES

The financial statement schedule included in Part II, Item 8 of this
document is filed as part of this Report.

All other schedules are omitted as the required information is inapplicable
or the information is presented in the consolidated financial statements or
related notes.

(b) REPORTS ON FORM 8-K:

48
<PAGE> 49

A current report on Form 8-K was filed by the Company on October 29,
1998 to report the acquisition on June 24, 1998, of the assets of
Invincible Technologies Corporation under Item 2 of Form 8-K.

49
<PAGE> 50

(3) EXHIBITS

INDEX TO EXHIBITS

<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION PAGE
---------- ----------- ---------
<S> <C> <C>
1.1+ Form of Underwriting Agreement..................................................
3.1+ Amended and Restated Articles of Incorporation of the Company...................
3.2+ Amended and Restated Bylaws of the Company......................................
10.1+ Form of Indemnity Agreement between the Company and each of its executive
officers and directors..........................................................
10.2+ Form of Amended and Restated Procom Technology, Inc. 1995 Stock Option
Plan............................................................................
10.3+ Amended and Restated Executive Employment Agreement, dated as of October
28, 1996, between the Company and Alex Razmjoo..................................
10.4+ Amended and Restated Executive Employment Agreement, dated as of October
28, 1996, between the Company and Frank Alaghband...............................
10.5+ Amended and Restated Executive Employment Agreement, dated as of October
28, 1996, between the Company and Alex Aydin....................................
10.6+ Amended and Restated Executive Employment Agreement, dated as of October
28, 1996, between the Company and Nick Shahrestany..............................
10.7+ Form of Registration Rights Agreement...........................................
10.8+ Lease, dated February 10, 1992, between 2181 Dupont Associates and the
Company, as amended.............................................................
10.9+ Loan and Security Agreement, dated November 18, 1994, by and between the
Company and FINOVA Capital Corporation, as amended..............................
10.9+ Amendment to FINVOVA Loan and Security Agreement dated July 30, 1997............
10.10+ Asset Purchase Agreement, dated June 24, 1998, among Invincible Technologies
Acquisition Corporation, Invincible Technologies Corporation, and certain
stockholders of Invincible Technologies Corporation named therein...............
11.1+ Statement re: Computation of Earnings Per Share.................................
21.1 List of Subsidiaries............................................................
23.1 Consent of Arthur Andersen LLP..................................................
27.1 Financial Data Schedule.........................................................
</TABLE>

- ----------

+ Previously filed

50
<PAGE> 51

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
Irvine, California, on the 29th day of October, 1998.

PROCOM TECHNOLOGY, INC.

By: /s/ Alex Razmjoo
-----------------------------------
Alex Razmjoo
Chairman, President and
Chief Executive Officer

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

<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ Alex Razmjoo Chairman of the Board, President and October 29, 1998
- --------------------------------- Chief Executive Officer (Principal
Alex Razmjoo Executive Officer)

/s/ Alex Aydin Executive Vice President, Finance and October 29, 1998
- --------------------------------- Administration (Principal Financial
Alex Aydin Officer)

/s/ Frederick Judd Vice President, Finance and General October 29, 1998
- --------------------------------- Counsel (Principal Accounting Officer)
Frederick Judd

/s/ Frank Alaghband Director October 29, 1998
- ---------------------------------
Frank Alaghband

/s/ Nick Shahrestany Director October 29, 1998
- ---------------------------------
Nick Shahrestany

- --------------------------------- Director October __, 1998
Dom Genovese

- --------------------------------- Director October __, 1998
David Blake
</TABLE>

51
<PAGE> 52

SCHEDULE II

PROCOM TECHNOLOGY, INC. AND SUBSIDIARIES

<TABLE>
<CAPTION>
COL. A COL. B COL. C COL. D COL. E
- ------------------------------------- ----------- ------------------------------ ----------- -----------
ADDITIONS
------------------------------
BALANCE AT CHARGED TO CHARGED TO BALANCE
BEGINNING OF COSTS AND OTHER AT END
DESCRIPTION PERIOD EXPENSES ACCOUNTS DEDUCTIONS OF PERIOD
- ------------------------------------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Year ended July 26, 1996:
Allowance for sales returns ..... $ 73,000 $ 130,000 -- $ -- $ 203,000
Allowance for doubtful accounts . 106,000 473,000 -- (409,000) 170,000
Allowance for excess and obsolete
inventory ..................... 70,000 284,000 -- (199,000) 155,000

Year ended July 31, 1997:
Allowance for sales returns ..... $ 203,000 $ 469,000 -- $ -- $ 672,000
Allowance for doubtful accounts . 170,000 277,000 -- (127,000) 320,000
Allowance for excess and obsolete
inventory ..................... 155,000 341,000 -- (306,000) 190,000

Year ended July 31, 1998:
Allowance for sales returns ..... $ 672,000 $ 372,000 -- $ -- $ 1,044,000
Allowance for doubtful accounts . 320,000 53,000 225,000 (a) (90,000) 508,000
Allowance for excess and obsolete
inventory ..................... 190,000 454,000 213,000 (a) (432,000) 425,000
</TABLE>

(a) Represents reserves of two entities acquired by the Company during
fiscal 1998.

52
<PAGE> 53

EXHIBIT INDEX

- ----------

+ Previously filed

<PAGE> 1

PROCOM TECHNOLOGY,INC.

EXHIBIT 21.1 -- LIST OF SUBSIDIARIES

<TABLE>
<CAPTION>
STATE OR JURISDICTION
NAME OF LEGAL ENTITY OF INCORPORATION
-------------------- ----------------
<S> <C>
Procom Technology FSC U.S. Virgin Islands
Megabyte Computerhandels AG Germany
Invincible Technology Acquisition Corp. Massachusetts
</TABLE>

All are wholly-owned subsidiaries of Procom Technology, Inc.

E-1

<PAGE> 1

EXHIBIT 23.1

[ARTHUR ANDERSEN LLP LETTERHEAD]

CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS

As independent public accountants, we hereby consent to the incorporation of
our report included in this Form 10-K into the Company's previously filed
Registration Statement on Form S-8 File Number 333-23905.

/s/ ARTHUR ANDERSEN LLP
-----------------------------------
ARTHUR ANDERSEN LLP

Orange County, California
October 8, 1998

<ARTICLE> 5

<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<CASH> 577,000
<SECURITIES> 22,785,000
<RECEIVABLES> 19,098,000
<ALLOWANCES> 4,048,000
<INVENTORY> 9,147,000
<CURRENT-ASSETS> 50,382,000
<PP&E> 4,366,000
<DEPRECIATION> 2,155,000
<TOTAL-ASSETS> 54,439,000
<CURRENT-LIABILITIES> 17,707,000
<BONDS> 0
0
0
<COMMON> 112,000
<OTHER-SE> 54,327,000
<TOTAL-LIABILITY-AND-EQUITY> 54,439,000
<SALES> 111,886,000
<TOTAL-REVENUES> 111,886,000
<CGS> 75,527,000
<TOTAL-COSTS> 75,527,000
<OTHER-EXPENSES> 28,738,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 15,000
<INCOME-PRETAX> 8,850,000
<INCOME-TAX> 3,474,000
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 5,376,000
<EPS-PRIMARY> .48
<EPS-DILUTED> .48

</TABLE>